5.1 Savings and Investing5.2 The Rule of 72

Getting Started

Saving

Why Save? Have a Goal

A future goal Car College tuition New computer Purchase a home Retirement Vacation

How much do you need?

When do you need it by?

Do you have to borrow?

How To Save Make choices about how to use money Set money aside to buy later Pay off CREDIT CARDS Pay yourself FIRST (10% away) Put it in a safe place (bank) Rule of thumb: Money for 6 months of bills Emergency cash

Saving/Investing is important for people of ALL income levels

Liquidity How easy it is to turn an item into cash

without losing any moneyEx. Money in savings = VERY liquid because

it’s readily availableEx. House = not very liquid because you may

have to wait to find a buyerEx. Government bonds = not very liquid

because you have to hold them for a specific period of time

(You could purchase a $25 savings bond and receive $50 in 10 years when it “matures”)

CD – Certificate of Deposit CDs are a good place to put extra money for

relatively short amounts of time. Typically offered in terms of 3 months, 6 months, 1

year, 2 years, 3 years, 5 years or greater CDs are considered a safe investment, but their

low interest rates mean your money grows slowly.

You must pay penalties if you withdraw your money before the CD has fully matured.

Would a 2 year CD be liquid?

Investing Process of putting money some place with the

intention of making a financial gain Has higher financial gain No guarantee you’ll get more money More risk than savings RISK: chance of losing some or all of the

money you invested Default risk: potential you may not get your

money back once it’s invested

Earning Interest WHY? – loaning the bank your money while

it’s deposited in your account IN RETURN – bank guarantees your money is

available when needed Interest = compensation TWO ways interest can be computed: simple

and compound

Principal: original amount deposited for investing

SIMPLE INTERESTCalculated on ONLY the money you invest

or loanExample: simple interest = 5%

amount = $100 time = 3 yearsYear 1: $100 x .05 = $5Year 2: $100 x .05 = $5Year 3: $100 x .05 = $5

Total earned: $5 + $5 + $5 = $15

Example: simple interest = 2%amount = $200 time = 2 years

Year 1: $200 x .02 = $4Year 2: $200 x .02 = $4

Total earned: $4 + $4 = $8

COMPOUND INTERESTCalculated on the money that you

invest/loan PLUS any interest they have already paid you

Example: compound interest = 5%amount = $100 time = 3 years

1: $100 x .05 = $5 $100 + $5 = $105

2: $105 x .05 = $5.25 $105 + $5.25 = $110.25

3: $110.25 x .05 = $5.51 $110.25 + 5.51 = $115.76

Example: compound interest = 10%amount = $300 time = 2 years

1: $300 x .10 = $30 $300 + $30 = $3302: $330 x .10 = $33 $330 + $33 = $363

Compound Total Earned = $30 + 33 = 63

Simple Total Earned = $30 + 30 = $60

Rule of 72 Length of time (years) it takes an amount of

money saved to double when it receives compound interest

Rule of 72:Years to double = 72 / Interest Rate

At 6% interest, your money takes 72/6 = 12 years to double.

At 9% interest, your money takes 72/9 = 8 years to double

Module 5.3

Saving and Investing Tools

Saving and Investing Many options available Decision based upon how you plan to use the

money and when you’ll need it Savings – short and medium term goals or 7 years

or less Investing – long-term goals

Differences in Saving and Investing Saving is less risk than investing Investing has higher rates of return

which means higher risk Saving products guarantee a

specific rate of return There is no guarantee in investing

Saving Strategy - Saving Accounts Interest bearing accounts Banks and credit unions Low interest rates Deposit small amounts of money Meet short-term goals Emergency fund

Saving Strategy - Certificate of Deposit (CDs) Banks and credit unions Federal insurance (protect $ if bank/credit

union closes) CDs “mature” – days or years Longer terms = higher interest Less liquid than savings account

Saving Strategy - Government Savings Bond Little or no risk (back by government) Held for a minimum number of years before

you can cash them in to get money and interest

Higher rate or return than savings and CDs

Saving Strategy - Money Market Mutual Funds Provide higher rates of return than savings Banks and credit unions Covered by insurance with banks and credit

unions Good for long term goals because it’s

diversified Provide higher rates of return than savings

accounts as the money is invested in very short-term investments with a low risk.

Saving Strategy - Checking Accounts Purpose is NOT to save money Convenience BUT some earn a very small % of interest

Investing Strategy - Mutual Funds Investors pool money to buy shares of a fund

that invests in many different financial products (stocks, bonds, and securities)

Great starting point for people with limited knowledge about investing

Accounts have professional money manager who monitors

Investing Strategy - Stocks Buying stocks = owning part of a company Stocks do not provide more risk than a mutual

fund If a company fails, your investment is gone Buy a variety of stocks and diversify (investing

your money in various ways in order to spread risk)

Investing Strategy - Corporate bonds Making a loan to that company They use your money and pay you back with

interest Lower risk option Lower return than stocks

Rates of Return The amount of money you can earn when saving or

investing The higher the average return, the more risk you are

taking as an investor Shows past performance and how it’ll do in the future

(T-bill: short-term securities that mature in one year or less from their issue date)

Asset Class Rate of Return (Average)

Common stocks 10% - 13%

Stocks of smaller companies

14% - 16%

Long term corporate bonds

6.5% - 8%

Long term US gov bonds 5% - 7.5%

Short term US Treasury bills

3.5% - 5%

Module 5.4

Time is Money

Asset Class Defined as specific kind of investment Different classes have different risk levels

Match the amount of time you need to financially meet your goal with the asset class.

Fixed Income ItemsLEAST RISKY Bank accounts – immediate access to $ Certificate of Deposits – varies based on

contract Government Bonds - $ loaned to US

government Municipal Bonds - $ loaned to a city Corporate Bonds - $ loaned to a business

corporation

Equity Items Large Cap Stocks – ownership in large

companies Small Cap Stocks – ownership in small

companies International stocks – ownership of foreign

companies Commodities - ownership of gold, oil, etc. Microcap stocks – ownership in small

companies with high risk of failureMOST RISKY

More Terms Risk tolerance: relates to how much

potential loss you can handle with your investment Risk takers may want to invest in the stock market People with low risk tolerance should use fixed

income or saving products Diversification: investing your money in

various ways in order to spread risk (stocks, bonds, money market accounts, etc.)

More Terms Inflation: increase in the average price of

goods and services from one year to the next Ex. With 3% inflation, $100 this year = $97 next

year

Keeping money in a checking account that does NOT earn interest means you’re actually losing money.

Average inflation rate in the US is about 3% a year.