Short-Term Investment vs Long-Term Investment: Key Differences

We all have financial dreams. Some we want to achieve relatively quickly, like buying a new car next year. Others are more far-reaching, such as exploring the world after retirement. While investing can help you achieve these goals easily, not all investment strategies are created equal. To achieve your short-term goals, you may have to invest in short-term products like debt mutual funds, whereas long-term products such as equity mutual funds can help you realise dreams that are far away. Understanding the differences between the two can help you identify the most suitable investment options for your unique financial goals and timeline.

So let’s dive into short term vs long term investment. We’ll understand what they are, and how they differ, and take a look at some of the best options available for each. 

Differences Between Short Term Investment vs. Long Term Investment

Short Term Investments	Long Term Investments
Any investments held for a short duration, generally three years or less are called short-term investments.	Investments held for several years or even decades are considered long-term investments.
The main purpose of investing in short-term vehicles is to preserve the value of capital from factors such as inflation, for a short duration.	Long-term investments on the other hand help investors with not just capital preservation, but also wealth accumulation.
The risk associated with short-term investments is lower, as investments are generally made in fixed-income products with shorter maturity periods.	Long-term investments may come with significant risks, but generally only in the short term. Over the years, the risk tends to diminish as market fluctuations smooth out.
Short-term investments thus don’t offer high returns.	Long-term investment returns get compounded, so the potential for wealth creation is very high.
It’s much easier to access short-term investments quickly, so they offer higher liquidity. This makes short-term investments a great tool for emergency planning.	Long-term investments aren’t as liquid and should be avoided for building an emergency fund.
Some examples of short-term investments are liquid funds and treasury bills.	Examples of long-term investments include real estate and equity mutual funds.

Now that you have an overview, let’s take a look at short term vs long term investment in more detail.

What are short term investments?

When an individual makes a short term investment meaning, an investment held for a brief duration, they invest in avenues that help them achieve their immediate financial goals. The duration can vary, but generally, any investment held from a few months to three years is considered a short-term investment. These investments help individuals achieve goals such as enjoying a family vacation abroad, buying a new car, and building an emergency fund. So in a sense, we can call short-term investments the tools that help you fulfil your relatively ‘immediate requirements’. 

These investments don’t offer very high returns but are excellent at preserving the value of your money. By simply saving money in a regular bank account, one may get exposed to the erosive effects of inflation. Short-term investments ensure you keep up with the inflation and earn modest returns. Generally, short-term investments are safer, because the exposure to market fluctuations is very limited. One can also access their funds easily, so short-term investments also offer higher liquidity compared to long-term investments. Some popular short-term investments are fixed deposits, certificates of deposit (CDs), treasury bills, liquid funds, and short-term bonds.

 

Best Short Term Investment Options

Fixed Deposits (FDs): 

One can deposit a lump sum into a fixed deposit account with a bank for a predetermined period. In exchange, the bank offers guaranteed interest over that period. Traditionally, fixed deposits have been favoured by conservative Indian investors for the safety and stability they provide. Non-banking financial companies (NBFCs) also provide similar fixed deposit schemes, called corporate FDs.

These FDs generally offer higher interest rates compared to bank FDs, but they often come with slightly higher risk due to the absence of DICGC insurance. One should always check the credibility and reliability of the financier before making the investment, as well as the lock-in period. When you decide to liquidate your bank FD prematurely, the bank may charge a penalty. Some corporate FDs however, don’t allow investors to withdraw at all before maturity.

Liquid Funds:

A liquid fund is a kind of debt mutual fund. These funds are specially designed to offer investors a high level of liquidity while providing higher returns than fixed deposits. The fund manager invests in fixed-income instruments such as treasury bills, commercial papers, and certificates of deposit, all of which have short maturities. This lowers the interest rate risk, making liquid funds one of the safest options in the debt mutual fund category. Due to the brief maturity and absence of entry and exit loads, liquid funds offer high liquidity and flexibility to investors. 

Commercial Paper:

Corporations need funding to meet their capital expenditure, settle short-term liabilities, or simply manage their day-to-day operations. Corporations issue commercial papers to raise funds for such purposes. Commercial papers are short-term debt instruments that also offer higher returns compared to bank FDs, and have a much shorter maturity period.

Treasury Bills (T-Bills):

The government issues t-bills to raise short-term funds. While one may have to look closely at the creditworthiness of the company issuing commercial papers, Treasury Bills are considered one of the safest investments because they are fully backed by the government. Due to the safety and short maturity period, T-Bills are a popular choice for short-term investment. 

Short-Term Bond Funds:

Short-term bond funds are also a type of mutual fund. These funds invest in bonds issued by the government and corporations, and they have short maturities ranging from one to five years. Like liquid funds, the interest rate risk associated with bond funds is very low as the fund managers invest in credible securities. 

What are Long term investments?

Now let’s move on to long-term investment meaning. Investments that are held for several years or decades are considered long-term. One invests in options to achieve long-term goals such as building a retirement corpus, funding children’s higher education, or starting a business. Long-term investments come with considerably higher risk compared to short-term investments, but they also offer the potential for much higher returns. This is because long-term investments benefit from the power of compounding interest, which can significantly amplify gains over time. Since investors buy and hold onto their assets for extended periods, the liquidity offered by such investments is generally moderate to low. Some examples of long-term investments are stocks, equity mutual funds, and real estate.

Best Long Term Investment Options

Stocks:

Investing in stocks can be very profitable, but it also carries inherent risks. Retail investors often make many mistakes when investing in equity, the biggest being not having a long-term perspective. Any equity product like stocks works best in the long term because time allows investors to ride out short-term market fluctuations and benefit from the power of compounding. Another risk associated with stocks is the failure of one sector or industry. That’s why it’s important to diversify your stock portfolio. You must have heard the phrase ‘Don’t put all your eggs in one basket’. With diversification, you can spread your investments across various sectors, industries, and asset classes, which reduces the impact of any single investment’s underperformance on your overall portfolio. 

Mutual Funds/Equity Mutual Funds:

A major benefit of investing in mutual funds is diversification. When you purchase an equity mutual fund unit, your money is invested across a diversified portfolio of primarily equity or equity-related assets. This way, you won’t have to worry about diversifying the portfolio yourself. The second advantage is professional management. Your money is handled by an experienced fund manager with a team of expert analysts at his disposal. This expertise allows for active management of the portfolio, strategic asset allocation, stock selection, and ongoing monitoring of market conditions. 

Simply, equity mutual funds offer a less risky and more peaceful way for investors to invest long-term compared to direct equity investing. Equity-Linked Savings Scheme (ELSS) is a type of equity mutual fund that also offers tax benefits up to Rs. 1.5 lakh under Section 80C of the Income Tax Act, giving equity funds one more advantage over direct stock market investing.

Also Read: How to Invest in Mutual Funds?

Real Estate:

Investing in real estate is one of the most popular and time-tested ways to build wealth and generate passive income. A property can generate returns in two ways. First is by appreciation over time, and second is rental income to generate a regular stream. There are however significant liquidity concerns associated with real estate. Should you need money to deal with some unexpected expenses, you may find it hard to quickly sell your property for a fair price and access the funds you need. 

Conclusion:

Short-term investments such as bank and corporate fixed deposits, T-Bills, and commercial papers help you achieve your immediate goals. These options offer modest returns, but they offer high liquidity and accessibility at low risk. On the other hand, long-term investments such as mutual funds, stocks, and real estate help you accumulate wealth over time by offering high returns. The risk associated with these investments is higher, but only in the short term. In the long run, these investments tend to be not as risky as they may seem, because of their ability to recover from short-term market fluctuations.

These investments work hand in hand. If you are planning for a vacation next year that doesn’t mean you should solely focus on short-term investments and neglect retirement planning. Your investment strategy must be balanced. Whether for the long-term or short, choosing the most suitable options requires you to carefully assess your financial goals, risk tolerance, financial situation, and investment horizon. An investment planner can help you assess these factors and make an investment plan that allows you to meet your short-term goals while still working towards long-term financial growth.