Savings, by definition, is any surplus money set aside in a secure place and which is accessible upon demand. By contrast, investment is money injected into a specific project, usually long term, with the aim to make a sustainable profit. The two terms mainly differ in terms of the risk involved and the level of liquidity involved. Savings are usually associated with low risk and higher levels of liquidity since they can be accessed upon demand. On the other hand, investments are characterized by higher risks and extremely low levels of liquidity, but if successful, then they are quite gainful.
In some instances, the FDIC insures savings in banks against loss but this is not the case with investments. The idea is that while investments can grow and have returns in future, savings, in most cases, always remain the same. Examples of savings include emergency funds, or car funds, all of which the funds are secured in a bank account or in deposit certificates. On the contrary, sample investments include purchasing a piece of land, building rental apartments or even starting a business venture. In a portfolio scenario, savings can be used for sustainability purposes and day to day running while investments can be looked upon for growth of the portfolio (Berg & Green, 2012).
Ethics is a central component in any dealings with financial planning professionals. Though not under oath, financial planners are at all times expected to carry out their duties diligently while adhering to the professions code of ethics. Under this code, the importance of ethics is emphasized with the professional planner bearing the bulk of the responsibility. Ethics dictates that any planner must uphold the virtue of integrity and exercise honesty in their dealings. This means that under no circumstance should the planner knowingly provide misguiding information to a client since they should be solely guided by what is in the clients’ best interest. Prior to any dealing, the planner needs to outline the terms of engagement as well as the expected compensation. This ethical consideration minimizes the possibility of conflict. Of importance is the requirement that the planner fully discloses their qualification and relevant license to handle a client’s needs, as well as guarantee that anything discussed with the client remains strictly confidential. This protects the client against any unnecessary loses or exposure (Bruce & Ahmed, 2014).
The Return on Investment, widely abbreviated as ROI, is a measure of either loss or gain resulting from an investment as a ratio of the amount initially invested. Usually denoted in terms of percentages, the ROI helps a business manager in analyzing the profitability of the company in general or a single venture, and even used as a tool in analyzing financial decisions made. In a financial plan, the ROI can act as a rudimentary gauge to analyze the profitability of an investment. Based on the result, more funds could be injected into the investment or the project could be discontinued altogether. Alternatively, in the event of multiple investments, more resources could be diverted to those projects with a higher ROI. In addition, based on the outcome of the ROI, various inquiries could be made as regards a financial plan and alterations to increase profitability implemented (McNulty & Inkson, 2013).
The equation used to calculate the ROI is:
ROI = (Net Profit/ Investment Cost) x 100.
The risk versus reward is a ratio that compares the amount of profit one stands to gain (reward) against the possible loss on investment (risk) depending on the outcome of an investment. In most instances, the two concepts are directly proportional. This means that the higher the risk ratio, the higher the profits one stands to gain in the event of a gainful ROI. As relating to personal financial goals, the risk versus rewards ratio finds immense application. For instance, the ratio dictates how much money I could invest as a measure of the risk I am willing to take. It also takes into account the duration of investment within which I would expect to make a profit. To augment returns, a longer investment duration and a sizeable investment amount are necessary. In drawing up a personal financial plan, the measure of risk versus rewards helps establish a comfort level from where I could base and build my portfolio (Khan & Khan, 2011).
The cost to benefit analysis is a system used to compare the strengths and weakness of various alternative investment options. The entire concept is based on the need to select the alternative that best preserves savings while achieving the greatest benefits from an investment. Of great relevance to the cost to benefit analysis is the opportunity cost. Basically, the opportunity cost is the result of a choice made in decision making on what venture to pursue between two events that are mutually exclusive. As part of my choices, the opportunity cost is the benefit forfeited by virtue of the decision to pursue a specific venture at the expense of the other. The concept of opportunity cost impacts my choices during decision making since only that venture with the highest likelihood of success, measured by a cost to benefit analysis, is pursued while the alternative choice is shelved (Adler & Posner, 2006).
The economic principle behind time value of money dictates that money is more valuable at the present moment as opposed to the same amount of currency at a later date. This concept is particularly true when applied to saving and investing of money. The idea is that money received in the present moment could be saved or invested, in both instances gaining some interest and is, therefore, said to be compounded. Nevertheless, the time value of money received at a later date is substantially lowered since it runs the risk of inflation lowering its value or even the likelihood of missing out on an investment chance, hence an opportunity cost. In addition, the time value of saved or invested money is higher since the risk of not receiving the money at a later date is eliminated (Peterson & Fabozzi, 2009).
Interest rates impact the time value of money by increasing the present value of the sum invested by a certain percentage depending on the investment duration to achieve a future value. For instance, if one were to invest $10, 000 compounded quarterly at a 10% interest rate, the future value of the invested sum can be arrived at using the equation:
FV = PV X {1 + (i/n)}n (n x t)
Expanded, FV= Future value
PV= Present value
i= interest rate
n= yearly compounding periods
t= years
Applied, this would yield
FV= $ 10, 000 X {1 + (0.01/4)}n (4 X 1)
FV= $ 11, 038.