How to Start Saving

Investment Board: Everyone should have a savings pot, but how to get started? We're at the whiteboard with some tips - most importantly, start as soon as possible

Holly Black 29 January, 2021 | 9:34AM
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Holly Black: Welcome to the Morningstar Investment Board. I'm Holly Black, today we're talking about how to build a savings pot. Everyone should try and have a savings pot. Regardless of what you're planning to do with that money, it might be an emergency pot in case the boiler breaks, rainy day savings, in case you suddenly decide you need to get away from it all. Or saving towards a future goal, house retirement, something like that. This comes with a caveat, I'm going to do a little warning sign, that's how important this caveat is, debt. In most instances, it makes sense to pay down your debt before you start setting aside money into a savings pot. Why is that? Because it's more expensive to have debt, you'll pay more in interest than you can earn on a savings account. Exceptions to that would be things like a student loan, which are ultra-low rates, and quite long term, quite big sizable debt piles, we (don't) have to just pay down in a few months. And something like a mortgage, which again, a long term, quite low rate type of debt. 

So with that said, terms and conditions, all out of the way there. Savings, the traditional rule for savings is think of your wage as three parts, 50% of your wage should go on needs, that's things like your rent, groceries, electricity, water bill, things you really have to pay, even though you probably don't want to. 30% is much more fun, that's for wants. So, things you don't need, but they make you happy, maybe it's a new pair of shoes, some clothes, a holiday, eating out, going to the theatre, whatever makes you happy and that you want to spend your money on. Final 20% is savings.

 So if we just think about that, as someone who maybe has a take home wage, nice round number of £1,500 pounds, that would be £750 pounds going on needs, £500 on wants and £250 on savings. So, rules of savings start early, because we might not all be able to save £250 a month. But actually the earlier you start the less that matters. So it's time for one of my nice sums. If you save just £25 a month is a cost of one takeaway, at least the way I order. And you put that aside every month for 40 years, you increase it in line with inflation, which at the moment is very low, but the inflation target is 2%. So it'd be £25 this year, and £25.50 next year. After 40 years, you have more than £50,000, just from giving up one takeaway a month, it's not so bad.

And let's do some more sums because why not let's treat ourselves. Let's think about someone who can save £300 a month, maybe they're a little bit wealthier and have some less debt so a little bit more money to set aside. We'll think about this lady, she's going to start saving at age 30 her £300 a month. This chap, he's a procrastinator, he doesn't start saving till age 35. If they both invest their £300 a month, and it grows for both of them at a rate of 8% a year sounds like a lot. Current – way the stock market moved this year, it's not that much. By the time they reach age 60. Maybe they want to take an early retirement. Early Edwina has got £688,000. Whereas the late staff Larry has only got £447,000 just from not starting five years earlier, that is the power of long-term savings. 

So saving is really boring. And the reason we don't do it is because it's kind of one of those things you don't get around to. So we have to build it into our behaviours and make it less effort. There are some really easy ways to do that. One is set up a direct debit out of your bank account. And then you don't have to remember to transfer money from your main account into a savings account. Set it up for the day after payday. Alternatively, not alternatively as well as get an app and this could be available through your bank or a third-party app that rounds up your spending. So for example, if you go and buy a coffee for £2.80 it rounds up 20p to £3 and the extra 20p goes into a savings account, doesn't sound like much, but consider all those 20ps, and 10ps and 30ps over the course of a year, and it builds up over time. 

You should also increase this direct debit, every time you get a wage increase, do it straightaway, otherwise, we fall into a lifestyle trap where our spending rises in line with our earnings, but our savings don't rise in line. And if you ever come into any extras an inheritance, a work bonus, maybe you won the lottery, put it in a savings account, sure do something nice with it, but also put some in a savings account. 

And the next thing we should be thinking about is what are we saving for because that tells us how much risk we can take with our money. Think we need a little chart down here. Here's a chart. So this is no risk. And this is some risk. So if we are saving for an emergency fund, we need that money, we need to know it's safe in the bank for when something goes wrong, we are going to take no risk, it's just going to go into a high street savings account, it probably won't earn very much money, probably won't grow, but it's safe. If we're saving for a goal, maybe we're saving for a house deposit or our wedding. It's maybe a few years away. So we'd like to try and boost the growth a little bit. But we can't afford for the value of the money to go down, we can take a tiny bit more risk. So maybe something like a very low risk fund. That's mostly fixed income. That's not going to dash around with the stock market. 

And if we think of longer-term goals, saving for retirement, we have unfortunately 40 years of work in which to save for retirement, we could afford to start ramping up the risk there. And if you're saving for the children, or the grandchildren, they have even longer if you're starting at birth, they maybe don't need that money until they're retiring at 68. We can ramp up the risk even more. So that's how we should think about savings. We should think about how much can we save? How can we increase that to build our savings over time and what do we need the money for?

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

Holly Black  is Senior Editor, Morningstar.co.uk