It can be confusing working out what type of investments you want. Our guide explains the crucial difference between short term and long term investments and how you can combine them in your portfolio.
It can be confusing when deciding what to invest in, as there are so many investments to choose from. Understanding the different characteristics of these investments can be hard.
One important distinction to understand is the difference between short term and long term investments. Most investments can be put into one of these categories. Once you understand the difference, you can work out what portion of your capital should be allocated to each.
So we’re going to show you what they are, their benefits, the key differences and how a portfolio allows you to combine both.
Short term investments
As their name indicates, short term investments are held for a few months, rather than many years. There is no rule, but, typically, short term investments are sold after less than 3 years. Some short term investments may even be held for days, hours, or even minutes!
Investments that are held for this length of time can include single stocks, some fixed-income products and some currencies and digital currencies. ‘Day traders’, for example, trade short term investments on a daily basis, hoping to make money from big price rises.
The key benefits of short term investments are…
- They sometimes make large returns in a short space of time.
- They are flexible – if you need the money for something else, you can sell.
- They give you the chance to take advantage of news cycles and market information.
Long term investments
Long term investments are usually held for many years, potentially even decades. Hence, a return on these investments can only be expected to be realised over a very long stretch of time.
Long term investments can include stock portfolios, bond portfolios, ETFs and other investments, like real estate and collectables (such as wine or art).
The key benefits of long term investments are…
- They remove the prospect of having to ‘time the market’. You don’t have to decide when to sell. Rather, you pick a long term time frame and stick to it.
- They benefit from the magic of compound interest.
- They remove the stress and emotion of investing as you know you don’t need the money for a long time so you can, in essence, forget about it.
- They allow you to diversify across asset classes because you can build a long term strategy to your wealth, picking and choosing a selection of investments that you’re going to hold for the long term.
- They allow you to benefit from preferential tax treatment and lower transaction costs, as you will only ever realise these costs if you change your portfolio. If you leave your portfolio alone, your costs will remain low.
The key differences between long term and short term investments are…
- They have different investment time horizons –
Short term investments are intended to make a return within a very short space of time, whereas long term investments can make a return at some point in the coming years.
- They carry different investment risk profiles –
Investing in short term investments is risky, as there’s little way to know if markets will go up or down in a short space of time. As Warren Buffett says, “In the short run, the market is a voting machine,” meaning that the short term stock market is nothing more than a popularity contest. That makes it near impossible to predict. Hence the risk is high. Over the long run, markets (usually) grow. So remember that long term investments have a higher chance of making you money and, the longer you invest, the less likely you are to lose money too.
- They meet different investment goals –
When thinking about risk, short term investments should be done with some money that you’re prepared to lose. Long term investing is where you should put the money that you’re wanting to save for long term goals, like retirement or to pass onto your children. Match your goals with investments. If saving for the long term, buy long term investments.
How to balance long and short term investments
As we’ve seen, there are big differences between long and short term investments. This means they can be combined in a portfolio.
A key rule to remember is that short term investments tend to be riskier and so should be done with the money that you’re prepared to lose. Long term investing should be done with the money that you’re saving for future plans, such as retirement or passing onto your children.
So plan to own a balance of both types of investments, but be sure to only allocate a portion of your money to short term investments with which you’re willing to take some risk. With this in mind, the majority of your investments should be in long term investments.
How can Sarwa help?
Sarwa’s platform gives you to access long term investments in a painless and affordable manner.
Our approach draws upon the work of top investors and academics to create a healthy balance of investments that minimizes portfolio risk, giving your money the greatest chance of growing over time. By investing with Sarwa, you’re investing for your long term financial goals.
Want to know more? Get in touch to discuss any aspect of investing with one of our advisors.
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