Cash Saving and Investing

Managing money effectively requires a balance between holding cash, saving, and investing. While all three play an essential role in financial planning, understanding their functions can help you make better decisions to grow and protect your wealth. Below are five key insights that will help you navigate these financial choices wisely.

1. The Role of Holding Cash

Cash is often viewed as the safest asset, providing liquidity and security. It is ideal for short-term financial needs, such as paying bills, funding an emergency reserve, or covering planned expenses like a holiday or home repairs. Having a cash buffer allows you to handle unexpected financial situations without resorting to debt or selling investments at an inconvenient time.

However, while cash ensures easy access to funds, it does not typically generate significant returns. Most bank accounts offer low interest rates, meaning your cash savings might not keep up with inflation. While it’s essential to have a cash reserve, holding excessive amounts beyond your immediate needs could limit your long-term financial growth.

In the UK, for instance, personal savings held in banks are protected by the Financial Services Compensation Scheme (FSCS) up to £85,000 per person, per institution. This means that even if your bank were to fail, you could still recover your money within this limit.   

There are also investment options known as “cash-like” products that offer slightly better returns than standard savings accounts while carrying only a bit more risk. A common example is money market funds (MMFs). These funds invest in high-quality, short-term debt and typically allow you to withdraw your money quickly, sometimes even on the same day. With interest rates rising, MMFs have become increasingly popular as they now offer more attractive returns while still providing liquidity and relatively low risk.

2. Inflation’s Impact on Cash

One of the biggest risks of holding too much cash is inflation. Inflation reduces the purchasing power of money over time. If the interest rate on your savings is lower than the inflation rate, the real value of your cash diminishes.

For example, if inflation is at 3% per year but your savings account only offers 1% interest, your money is effectively losing value. While keeping cash for emergencies and short-term expenses is wise, relying too much on cash savings alone can erode your wealth over time.

Imagine the Bank of England holding the inflation at 2% over the next 10 years (this is the goal), your £100,000 cash today, will only have a purchasing power (how much you can buy) of just over £82,000.

3. The Difference Between Saving and Investing

Many people use the terms ‘saving’ and ‘investing’ interchangeably, but they serve different purposes.

• Saving is putting money aside in low-risk accounts, ensuring it remains safe and accessible for short-term goals.
• Investing involves allocating money into assets such as stocks, bonds, real estate, or funds with the expectation of higher long-term returns.

While investing carries risks due to market fluctuations, it also offers the potential for substantial growth. Investing can help counteract the effects of inflation, ensuring that your money grows rather than decays. A well-planned investment strategy aligned with your risk tolerance and financial goals can significantly enhance your financial future.

Markets also tend to bounce back after a crash. But market fluctuations are impossible to predict and timing a market might be a costly endeavor. Selling out during a slump and missing out on subsequent gains might prove to be very costly.

4. How Emotions Influence Financial Decisions

Money isn’t just about numbers—it’s deeply emotional. Our financial decisions are often driven more by how we feel than what we know. Understanding how emotions can influence your behaviour around money is essential if you want to stay on track with your long-term goals.

The Fear Factor

One of the most common emotional drivers is fear—particularly fear of loss. When markets become volatile or the economy feels uncertain, many people instinctively move their money into cash because it feels “safe.” While this instinct is understandable, it can also be costly. Panic-selling investments during a downturn lock in losses and often mean missing the rebound when markets recover.

For example, during the COVID-19 pandemic in early 2020, markets dropped sharply, prompting many people to move their investments into cash. However, those who stayed invested saw markets recover much more quickly than expected—missing out on those gains could have significantly impacted long-term returns.

Overconfidence and the Herd Mentality

On the flip side, overconfidence can lead to risk-taking when markets are booming. People may pile into trending investments—often influenced by media hype or friends’ success stories—without fully understanding the risks involved. This can create bubbles that eventually burst, leaving latecomers with losses.

Similarly, the “herd mentality” can kick in, where individuals follow what others are doing rather than making decisions based on their own financial goals or risk tolerance. Emotional responses like FOMO (fear of missing out) can override logic, especially in fast-moving markets.

Anchoring and Loss Aversion

Other common biases include anchoring—where people fixate on a specific number, like the original price they paid for an investment—and loss aversion, which means the pain of losing money feels more intense than the joy of gaining it. This can lead to holding on to poor-performing investments for too long or avoiding opportunities altogether.

How to Manage Emotional Bias

The key is to create a solid financial plan that’s based on your goals, time horizon, and comfort with risk. When your strategy is well thought out, it becomes easier to stay disciplined during market ups and downs.

Some helpful ways to manage emotions in investing include:

• Working with a financial adviser who can act as an objective sounding board.
• Setting clear goals so you’re investing with purpose, not reacting to headlines.
• Diversifying your portfolio to spread risk and reduce the impact of market swings.
• Avoiding emotional decision-making by revisiting your plan rather than making snap judgments.

Understanding your emotional triggers and putting systems in place to manage them, can help you make more rational, confident financial decisions, even during uncertain times.

5. Exploring Alternatives to Cash and Stocks

We’ve all heard the phrase “Don’t put all your eggs in one basket” and it’s excellent advice when it comes to investing. Diversification is the principle of spreading your investments across different asset types, regions, and strategies to reduce risk and improve long-term outcomes.

A common approach is to combine equities (shares) and bonds in a single portfolio. Shares offer the potential for higher returns, while bonds typically provide steady income and lower volatility. Historically, these two asset classes have often moved in opposite directions—when stocks fall, bonds may rise—helping smooth out returns over time. This is the idea behind the traditional “60/40” portfolio: 60% equities and 40% bonds.

However, this balance doesn’t always hold. In times of high inflation and slow economic growth, both asset types can struggle—making diversification even more important. That’s where a multi-asset strategy comes in, blending equities, bonds, cash, and other investments to suit different goals and risk levels.

Not all equities are high-risk, and not all bonds are entirely safe. The right mix depends on your time horizon and objectives. Someone in their 20s might take on more risk to grow their pension, while someone nearing retirement may focus on protecting their capital.

Today’s investors also want their portfolios to reflect their values—like avoiding harmful industries or supporting companies with strong environmental and social practices. Many multi-asset strategies now offer ethical or ESG-focused options, helping you align your investments with your beliefs.

Conclusion

Understanding the balance between cash, saving, and investing is crucial for financial success. While cash provides security and liquidity, inflation can erode its value over time. Saving is essential for short-term needs, but investing offers the best opportunity for long-term financial growth. Overcoming emotional biases and diversifying your portfolio can help you build a strong financial foundation.

By making informed decisions and aligning your financial strategy with your goals, you can create a secure and prosperous future. If you’d like guidance on the best approach for your personal finances, speaking with a financial adviser can help you tailor a plan that works for you.