Savings

saving so that my savings can save me....

Hello and welcome to another issue of the newsletter. If this newsletter has been helpful, kindly share with your friends.

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Previously we went through how becoming “richer” is a mathematical problem that can be answered by either by increasing your earnings, reducing your expenses or a combination of both.

Today, we’d go over what to do with the excess of your expenses.

Savings can be seen as any money you do not spend today, and keep for the future. As long as you don’t spend it today, you can regard it as saving. Now the question is, if I have spent and have something left, what do I do with it.

This brings us to the 4 buckets of savings. This is based on what you intend to use the savings to do in the future. And they can fall into any of these buckets.

Expense Account

This is a bucket where you spend from. The funds for your daily expenses are “saved” here. This is usually a checking/current account. Accessibility is the main feature here.

A sub bucket here can be a liquidity fund/account.

Liquidity Fund

Here you keep extra cash, say 10% of all your expenses. The essence of this is to serve as a margin of safety to one-off shocks. This could be a sudden change in price.

A way to look at this is that the liquidity fund gives you slack and avoid budgeting mishaps due to last minute price changes. A way to fund this account could be using the extra-money you get, such as gifts, refunds, discounts or tax returns.

This account can be lumped together with the expense account.

Emergency Funds

This is money kept aside as a form of protection to cushion the effect of an emergency.

Emergencies are unplanned, unforeseen events that happen.

Example of what emergencies look like include:

1. This might be losing your job because the company is downsizing and not losing your job after poor performance and repeated warnings.

2. Your car tyre bursting while you are driving to work, and not your engine getting knocked out because you failed to regularly oil your engine.

Emergency funds should hold about 3–6 months of your monthly expenses, and this fund should be accessible. Depending on how conservative, you can increase the number of month expense worth in your emergency fund, but past a certain point, it is counter-efficient.

You might want to put this in a bank savings account so you earn some interest. Just note that this is going to be very small interest —or no interest at all— compared to others, but the priority is to have quick access.

Target-Savings

As human, it is not uncommon to have wants. In fact, our desires are insatiable. We will always want one thing or the other. For this purpose, it is also worthy of note that we might not have the financial buoyancy to use our monthly earnings to purchase some of those wants. As such, it makes sense to ave towards those needs.

A good way to do this is to create a target savings that “targets” the thing you want to buy and then save towards it. A plus if you bake in inflation numbers.

For example: You want to go on a holiday to Zanzibar, and it costs around $1,500 for the whole trip. You’d consider:

1. the amount increasing in the future (mainly due to inflation)

2. the exchange rate if you are saving in naira.

Let’s assume that the price will increase by 10% next year. This means the amount we are targeting is now $1650. Split down this amount by 12 months, and you save at $137.5 each month.

If you are saving in naira, then you have to consider where the exchange rate will be in 12 months and then save with that amount as your benchmark exchange rate. This will look like this:

If today, the exchange $/₦ is 1:1,500. It means you are going to save at today’s rate ₦2.25M for $1,500. Now, we’ve assumed a 10% increase in the cost, so you’d save adjusted to inflation ₦2.475M. This is your estimate if you assume the exchange rate remains the same for the next 12 months. If it doesn’t, then you have to apply your exchange rate estimate and then split that sum into 12 months, then you arrive at the amount you’d have to set aside in your target savings account.

Your target savings should be put in a “special savings” account that can yield interest, some few percentages higher than a “normal” bank savings account, and this too should be accessible within a 24 hours period max. An example of such “savings account” money market accounts, which are also offered by banks.

Investment-Savings

This bucket of savings is cash set aside as part of an investment portfolio. This cash is a longer-term savings used to build up your portfolio of stocks, ETFs, bonds and other assets in your investment portfolio.

The cash in this bucket can be put in short-term securities such as T-bills, commercial papers or via mutual funds.

The idea/purpose is to have a cash pile to take advantage of opportunities when they arise.

Summary

Saving is money not spent today- i.e. consumption pushed forward. The question of what you want to do with your savings depend on you. Where you are today, your wants, and what you want to achieve in the future.

The 4 major saving buckets are:

1. Expense account

2. Emergency fund

3. Target savings account

4. Investment-Savings account

There are no fast rules for these accounts, the most important thing is to do what works for you.

I hope this helps.

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PS: I wrote about my year; A Year Review: From Kaduna to Lagos

Write to you soon.