What’s the Best Way to Save for a Short-Term Goal?

Our topic on this episode of the Ready for Retirement podcast is about understanding the best way to save for a short-term goal.

Questions to ask ourselves: How soon will I need the funds for my short-term goal? How should I be invested when saving for a short-term goal, if I choose to invest at all? What types of investments are best for capital preservation? How do my investments change when investing for a short-term goal vs. medium and long-term goals?

Are you ready to start focusing on the things that truly matter when it comes to your financial future?

Key Points

• Short-Term Goals
  • Are you hoping to make a home purchase? Are you saving for college for your child in the next few years? How you invest is dependent on the time horizon of your goals.
• Investing Question: Which investment option would you choose?
  • Investment 1: Up 53% of the time
  • Investment 2: Up 63% of the time
  • Investment 3: Up 73% of the time
  • Investment 4: Up 88% of the time
  • Investment 5: Up 94% of the time
  • Investment 6: Up 100% of the time
  • It’s clear that Investment 6 is the best, right? Well, these are actually all the same. They are the returns of the S&P 500.
  • How could they all be different if it’s the same investment?
• The difference is the frequency.
  • Investment 1 is the S&P 500 daily returns. 53% of the time it’s positive, 47% of the time it’s negative. 
  • Investment 2 is the S&P 500 monthly returns. 63% of the time it’s positive, 37% of the time it’s negative
  • Investment 3 is the S&P 500 annual returns. 73% of the time it’s positive, 27% of the time it’s negative.
  • Investment 4 is the S&P 500 rolling 5-year returns. 88% of the time it’s positive, 12% of the time is negative.
  • Investment 5 is the S&P 500 rolling 10-year returns. 94% of the time it’s positive, 6% of the time it’s negative.
  • Investment 6 is the S&P 500 rolling 20-year returns, 100% of the time it’s positive and 0% of the time it’s negative, in any given 20-year time frame.
  • These are historical numbers to show us what regularity we can expect to achieve a positive income.
• Investing for ultra short-term goals (1-5 years)
  • This example shows us that if you had a one-year time frame and were hoping to invest, you likely will be positive, 73% of the time that’s been the case historically, but it’s likely wise to not invest because you’re subject to not having the funds ~27% of the time. 
  • Investing depends on your risk tolerance.
  • Generally, with short-term goals, such as goals from 1-3 years away, investing can be too much of a risk and not worth the volatility that comes along with it.
  • The question to ask yourself: is it worth having a small gain vs. not having the funds available for your goals?
  • It may not grow for you if you invest it, but the funds will be there when you need it.
• Medium-term investing (~10 years)
  • The S&P 500 was positive 94% of the time, so if you’re investing with a time horizon of ~10 years, you may find that it’s well worth investing because any potential short-term downfalls have enough time to recover.
• Other asset classes
  • The positive income increases as you continue to diversify. This example shows solely the S&P 500.
  • This give us a great starting point, but the S&P 500 doesn’t take into account bonds, international, emerging markets, and other asset classes which can provide additional returns with lower risk.
• Time horizon
  • The longer you have to invest, the more risky you can afford to be, as the daily/monthly/annual fluctuations of your account won’t impact your ability to reach your long-term goals.
• Peace of mind
  • If you would like no chance of being negatively impacted by invested and have a goal such as a down-payment on a home or big trip coming up, not investing may be the best decision for you.
  • As much as investing can be great for long-term returns, understanding what your risk tolerance is with investing is just as important to ensure you can sleep at night and not be inadequately allocated causing further stress. 
• Overall
  • Risk tolerance is different for everyone but the general framework is that the shorter your time-horizon, the more you should stay away from investing and the longer your time-horizon is, the more you can make your money work and continue to grow for you. Here’s the general framework:
    • If you’re investing for a goal less than 5 years away, a money market fund or high-yield savings account is likely best.
    • If you’re investing for a goal between 5-10 years, investing in a balanced portfolio may be best for you.
    • If you’re investing for a goal that’s longer than 10 years, this is when an aggressive portfolio may make the most sense.

Timestamps

1:00 – Saving For A Short-Term Goal

3:30 – S&P 500 Returns

3:29 – Should I Just Own The S&P 500 Index And No Others?

5:05 – When Does It Make Sense To Invest?

6:28 – Investing For The Long-Term

7:41 – When Does A Balanced Portfolio Make Sense?

9:30 – Align Your Financial Goals With Your Portfolio

10:30 – Investing & Risk Tolerance

Resources:

Submit your question:

Subscribe to the show

Work with James