Emergency Funds

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marloweusa
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Emergency Funds

Post by marloweusa » Wed Nov 26, 2014 10:34 am

My wife and i have about 8000 dollars in an emergency "rainy day" fund but its just sitting in a savings account (thus losing money because it will be overtaken by inflation). Can anyone suggest a very very low-risk taxable vehicle that we could put the money in which would allow for easy access and also a steady rate of growth? I was thinking bonds but bonds can still lose value. Maybe we should invest part of it in bonds and keep the other part in cash?

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tc101
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Re: Emergency Funds

Post by tc101 » Wed Nov 26, 2014 10:38 am

There are online banks with higher interest rates. I think I am getting .85% at Ally. There are better deals than that. But for $8000, if you get an extra 1% that is only $80 a year. It is worth doing, but it is not a real big deal.
. | The most important thing you should know about me is that I am not an expert.

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packet
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Re: Emergency Funds

Post by packet » Wed Nov 26, 2014 10:50 am

i keep ~$5k in my "contingency" fund which i consider tier 1 of my emergency fund (most liquid)... the rest, ~6 months living expenses, will be kept in (taxable) VSCGX, Vanguard LifeStrategy Conservative Growth Fund (I say "will be" because i'm in the process of moving funds there).

the contingency portion is kept in an online (only) savings account http://www.sfgidirect.com/ with a meager 1.01% currently. they move money faster than any other online banking i've personally used (it's always in my checking account the next day, no delays).

cheers,
packet
First round’s on me.

asif408
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Re: Emergency Funds

Post by asif408 » Wed Nov 26, 2014 10:57 am

My suggestions:

1) Online savings account (I use Ally and the interest rate is currently 0.9%)
2) I-bonds are my favorite (though you have to hold them for a year). They currently pay 1.48%, can't go down in value, and are designed to at least keep up with inflation based on the CPI-U. You could buy small amounts of I-bonds annually from your EF similar to what Manbaerpig suggests here: http://www.bogleheads.org/forum/viewtopic.php?t=77344. This is what I am doing now to gradually build up my emergency fund in I-bonds.
3) Other than I-bonds, I like Vanguard Short Term Bond Fund, but it can lose value (though it's worst quarter performance is -1.8% since 1994 and it has never had a year with a negative return).

I use the online savings account as my primary EF. The I-bonds and short term bond fund are secondary tiers of my EF. The reality is that anything you invest in that is ultra safe right now won't yield much.

mpowered
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Re: Emergency Funds

Post by mpowered » Wed Nov 26, 2014 11:10 am

I actually don't keep emergency funds in a cash account. I know that if I have a real emergency, I can always sell holdings in my taxable account. In the near short term, I have credit cards that I can use that will take me out 30 days to have time to sell my investments.

Topic Author
marloweusa
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Re: Emergency Funds

Post by marloweusa » Mon Dec 01, 2014 9:31 am

Thanks everyone. I have a Vanguard account (where I invest in mutual funds) too - maybe I should just keep the money in the money market account?

I know it's supposed to be about 3 months of expenses, but would you cap that at 5K? I just think 8K is a lot of money (for me at least) to be sitting around doing nothing.

ReedMan
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Re: Emergency Funds

Post by ReedMan » Mon Dec 01, 2014 9:48 am

marloweusa wrote:Thanks everyone. I have a Vanguard account (where I invest in mutual funds) too - maybe I should just keep the money in the money market account?

I know it's supposed to be about 3 months of expenses, but would you cap that at 5K? I just think 8K is a lot of money (for me at least) to be sitting around doing nothing.
We keep $1k extra in each personal and business checking. The rest is in Ally.

I've been wondering if we should limit the emergency fund and how much. We had 6 months of mandatory expenses, about $15k, but I'm dropping it down to $10k. I say mandatory exp, so I count food and shelter but not cable our sitter costs as things we can get rid of if a lay off occurred. Our situation changed recently and our income will be more steady for the future, plus being the budgeter I am expenses are super predictable. Your own situation may be different, but that was my thought process.

covepatrol
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Re: Emergency Funds

Post by covepatrol » Mon Dec 01, 2014 10:03 am

Packet:

What about something like Ca Int Tax Free for a 2nd tier?
I am in the same situation as I have been sitting on a large pile of cash for 10 months.

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cheese_breath
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Re: Emergency Funds

Post by cheese_breath » Mon Dec 01, 2014 10:15 am

marloweusa wrote:Thanks everyone. I have a Vanguard account (where I invest in mutual funds) too - maybe I should just keep the money in the money market account?
Even though it's almost chicken feed I don't see why you should leave your money in a MM account earning 0.01% when you could put it in FDIC insured accounts earning 0.9% or more.
The surest way to know the future is when it becomes the past.

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cheese_breath
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Re: Emergency Funds

Post by cheese_breath » Mon Dec 01, 2014 10:29 am

marloweusa wrote: I know it's supposed to be about 3 months of expenses, but would you cap that at 5K? I just think 8K is a lot of money (for me at least) to be sitting around doing nothing.
Think of it like insurance. I would base my emergency fund decision not one how much is in it, but how much you might possibly need. Just like you pay for any any other insurance and hope you never have to use it you should "pay" your emergency fund. If you think $5,000 will get you through a job loss or other unexpected expense, then fine. Otherwise you need to put in more.
The surest way to know the future is when it becomes the past.

aw82
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Re: Emergency Funds

Post by aw82 » Mon Dec 01, 2014 10:46 am

There's a lengthy thread active right now with several options of where to put the money (including some 5%+ APY, FDIC-insured strategies): http://www.bogleheads.org/forum/viewtop ... 1&t=150947

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packet
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Re: Emergency Funds

Post by packet » Mon Dec 01, 2014 4:07 pm

covepatrol wrote:Packet:

What about something like Ca Int Tax Free for a 2nd tier?
I am in the same situation as I have been sitting on a large pile of cash for 10 months.
Forgive my ignorance, "Ca Int Tax Free"? As in the bond fund?
Assuming you mean a bond fund... not quite aggressive enough for me... :) ... VSCGX is fund of funds (ER=0.15) holding 40% equities / 60% bonds... which is pretty conservative, but with some upside potential.

i guess i should mention my "4th tier" of emergency funds... Roth IRAs. we have enough contributed it my/my wife's Roths to withdraw contributions only (no penalty, no tax) and live on for another couple years if truly needed (unless, of course the market really tanks, which would reduce that time period). I used to have 100% of my emergency fund in the supper liquid online saving account... but once the Roths got big enough, i got less worried about bigger/longer emergencies and invested most of the money. the money is in only 2 funds currently, i'm just waiting for time to go by (so the majority of the cost basis gets to long term) before transferring all of it into VSCGX.

please keep in mind, i am not a financial whiz, quite the contrary. which is exactly why i hang around here... :)

cheers,
packet
Last edited by packet on Tue Dec 02, 2014 3:41 pm, edited 1 time in total.

Topic Author
marloweusa
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Re: Emergency Funds

Post by marloweusa » Tue Dec 02, 2014 12:28 pm

Thanks to everyone for these good ideas. I think the analogy to insurance is a good one.

carofe
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Re: Emergency Funds

Post by carofe » Tue Dec 02, 2014 3:14 pm

packet wrote:i keep ~$5k in my "contingency" fund which i consider tier 1 of my emergency fund (most liquid)... the rest, ~6 months living expenses, will be kept in (taxable) VSCGX, Vanguard LifeStrategy Conservative Growth Fund (I say "will be" because i'm in the process of moving funds there).
You just gave me a great idea! thanks! I love this forum :D.
US Total Stock Market + Intermediate Term Bond. That's it.

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backpacker
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Re: Emergency Funds

Post by backpacker » Tue Dec 02, 2014 3:40 pm

Investors need precisely two things: a checking account and a portfolio. The checking account should hold enough money to make paying bills convenient. Everything else can be invested with the rest of the portfolio.

The reason that emergency funds (and other buckets of money) are attractive to investors is that it "feels" like they make your finances safer. Suppose that you and I both have $100,000. You invest $90,000 in a portfolio with an AA of 67/33 and put $10,000 in an emergency fund. I invest everything in a 60/40 portfolio and have no emergency fund. The first arrangement feels safer to most people because they have $10,000 that is "guaranteed to not lose value." But if you think about it, the two portfolio are identical. There's no difference between having $30,000 (from the portfolio) and $10,000 (from the EF) in fixed income and having $40,000 in fixed income. An investor is taking the same amount of risk either way.

One of the bad features of emergency funds is that they make your stock/fixed income allocation dependent on whether or not you have recently had an emergency. If you have an emergency and take money out of your EF, you now have a higher percentage of your total assets in stocks and lower percentage in fixed income. That's really strange. Why is an emergency a good reason for increasing one's stock allocation?

(Another question is whether retail investors should be using bonds or CDs for fixed income. My own preference is for roughly splitting FI between bonds and CDs. That gives you liquid bonds for rebalancing and less liquid CDs with higher rates.)

Triple digit golfer
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Re: Emergency Funds

Post by Triple digit golfer » Tue Dec 02, 2014 4:16 pm

backpacker wrote:Investors need precisely two things: a checking account and a portfolio. The checking account should hold enough money to make paying bills convenient. Everything else can be invested with the rest of the portfolio.

The reason that emergency funds (and other buckets of money) are attractive to investors is that it "feels" like they make your finances safer. Suppose that you and I both have $100,000. You invest $90,000 in a portfolio with an AA of 67/33 and put $10,000 in an emergency fund. I invest everything in a 60/40 portfolio and have no emergency fund. The first arrangement feels safer to most people because they have $10,000 that is "guaranteed to not lose value." But if you think about it, the two portfolio are identical. There's no difference between having $30,000 (from the portfolio) and $10,000 (from the EF) in fixed income and having $40,000 in fixed income. An investor is taking the same amount of risk either way.

One of the bad features of emergency funds is that they make your stock/fixed income allocation dependent on whether or not you have recently had an emergency. If you have an emergency and take money out of your EF, you now have a higher percentage of your total assets in stocks and lower percentage in fixed income. That's really strange. Why is an emergency a good reason for increasing one's stock allocation?

(Another question is whether retail investors should be using bonds or CDs for fixed income. My own preference is for roughly splitting FI between bonds and CDs. That gives you liquid bonds for rebalancing and less liquid CDs with higher rates.)
You seem to be using "fixed income" to mean the same as savings.

$10k in fixed income is not the same as $10k in cash or savings. The former could lose money, the latter will not.

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packet
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Re: Emergency Funds

Post by packet » Tue Dec 02, 2014 4:19 pm

backpacker wrote:Investors need precisely two things: a checking account and a portfolio....
Thank you backpacker ... i do believe you've altered my course ever so slightly... after reading this post and several of your others on a different EF thread.

so, my personal situation... all of my efforts go toward saving in tax advantage accounts, i simply don't make enough to live comfortably and max them all out. As a result, my taxable "investment" account consists only of my emergency fund. so, to follow your post, i should make it part of my asset allocation in my entire portfolio. so my first reaction was, fine, i'll switch to the growth fund and it's 80/20 mix. but, as i said, that's all i have in taxable... so that's just to risky for me to sleep at night.

thus, i'll meet you half way .... i'll stick with my plan to use the 40/60 fund in taxable... but i'll also shift out of bonds in tax advantaged accounts in proportion to maintain my 80/20 overall AA. i'm talking <5% today and less as time goes on, so this won't trigger a balancing event for me now. Ok, so that's not half way, that's entirely your way (if i understood you correctly), but i like it!

as to my 5k in the online savings... i'll keep that too... the benefit for me is that it's not part of the checking account so to pull out of it requires a moment or three of thought, which helps me maintain a certain level of frugal-ness with it. it also serves as an overflow area for money that i might invest later or splurge on something frivolous... a buffer zone if you will... :)

cheers and thanks again,
packet
First round’s on me.

aw82
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Re: Emergency Funds

Post by aw82 » Tue Dec 02, 2014 4:24 pm

backpacker wrote: The reason that emergency funds (and other buckets of money) are attractive to investors is that it "feels" like they make your finances safer. Suppose that you and I both have $100,000. You invest $90,000 in a portfolio with an AA of 67/33 and put $10,000 in an emergency fund. I invest everything in a 60/40 portfolio and have no emergency fund. The first arrangement feels safer to most people because they have $10,000 that is "guaranteed to not lose value." But if you think about it, the two portfolio are identical. There's no difference between having $30,000 (from the portfolio) and $10,000 (from the EF) in fixed income and having $40,000 in fixed income. An investor is taking the same amount of risk either way.
I think this is an example of trying to simplify something and instead making it more complicated, at least when put into practice.

First, lets discuss whether an e-fund is necessary. Many investors are primarily in tax-advantaged accounts, in which case having relatively stable liquid savings (whether in a taxable investment account, or CDs, or savings account) for emergencies is important. Otherwise, you may face huge penalties for withdrawing from an IRA in an emergency. I think everyone can agree that it is important to have a non-tax-advantaged account of some sort (brokerage, online savings, whatever) as part of your portfolio in order to avoid penalties. Whether you consider that account to be an e-fund or simply part of your portfolio is up to you.

Second, there's the question of whether your e-fund should be part of your AA. If you do consider it as such (along with other savings goals), then setting your AA has to factor a lot more than your retirement horizon. Most of the discussion on AA here and elsewhere is relative to saving for retirement.

My overall point is that you posit that e-funds are attractive because they "feel" safer, but I think it's perhaps more accurate to say they are attractive because they help many of us avoid penalties in the case of an emergency while simplifying retirement planning.

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M_to_the_G
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Re: Emergency Funds

Post by M_to_the_G » Tue Dec 02, 2014 11:22 pm

The difference is in the goals and thus the strategy for each. They are fundamentally different pots. The goal of having money invested is for retirement (or whatever purpose). The goal of having an emergency fund is to have immediately-available liquid money that can cover six months to one year of expenses in case of an emergency... without affecting your investments. An investment is not an emergency fund. It is either an investment or an emergency fund, but it isn't both. If you only have invested money, then you don't have an emergency fund. If you have an emergency fund, then there's no need to draw from your investments in case of an emergency. Those funds are invested for a reason, and the entire point is not to draw from them except to realize the goal of the investment, for example retirement.

It's a very easy to look at your financial spreadsheet and say, "Well, look at this! This emergency fund I created is just sitting there when it could be growing as a part of my portfolio." The problem is that you now no longer have an emergency fund. In fact, you don't even have investments anymore, because investments are for a concrete goal. Instead, you now have one "whatever" fund that you use for multiple purposes. That's not even considering the taxes, fees, potential losses and other costs you can run into if you want to quickly liquidate investments for an emergency.

I think it's a fallacy to see an emergency fund as dead money that's just sitting there when it could be invested. That's like looking at the concrete in a levee and thinking, "All these concrete blocks are just sitting here in this levee doing nothing. We can use them for building a barn. And if it starts to flood, no problem; we'll just tear the barn down and put the concrete blocks back in the levee."
"It’s basically the plot of 'Charlie and the Chocolate Factory.' If you stick around, doing nothing, while everyone around you ****s up, you’re going to win big." - John Oliver

mavi
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Re: Emergency Funds

Post by mavi » Wed Dec 03, 2014 1:27 am

M_to_the_G wrote:The difference is in the goals and thus the strategy for each. They are fundamentally different pots. The goal of having money invested is for retirement (or whatever purpose). The goal of having an emergency fund is to have immediately-available liquid money that can cover six months to one year of expenses in case of an emergency... without affecting your investments. An investment is not an emergency fund. It is either an investment or an emergency fund, but it isn't both. If you only have invested money, then you don't have an emergency fund. If you have an emergency fund, then there's no need to draw from your investments in case of an emergency. Those funds are invested for a reason, and the entire point is not to draw from them except to realize the goal of the investment, for example retirement.

It's a very easy to look at your financial spreadsheet and say, "Well, look at this! This emergency fund I created is just sitting there when it could be growing as a part of my portfolio." The problem is that you now no longer have an emergency fund. In fact, you don't even have investments anymore, because investments are for a concrete goal. Instead, you now have one "whatever" fund that you use for multiple purposes. That's not even considering the taxes, fees, potential losses and other costs you can run into if you want to quickly liquidate investments for an emergency.

I think it's a fallacy to see an emergency fund as dead money that's just sitting there when it could be invested. That's like looking at the concrete in a levee and thinking, "All these concrete blocks are just sitting here in this levee doing nothing. We can use them for building a barn. And if it starts to flood, no problem; we'll just tear the barn down and put the concrete blocks back in the levee."
It all depends on your financial situation - specifically, how significant a financial blow an "emergency" would be. If most of you investible assets are in IRAs and 401ks, then you do need a substantial emergency fund in a safe account. But if you have a large amount of money in taxable accounts that are sufficiently large to cover emergencies even in the aftermath of another 2008, then it may make sense to invest some or all of your emergency fund. If you decide you need an emergency fund of $50,000, but have $500,000 to invest in taxable accounts, you can feel free to invest some or all of the emergency fund in line with your risk tolerance, knowing that even in the worst bear market you'll have more than enough to cover an emergency. In contrast, if you only have $10,000 to invest, beyond your $50,0000 emergency fund, its best to keep it in safe assets.

SJCX
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Re: Emergency Funds

Post by SJCX » Wed Dec 03, 2014 7:58 am

What about the idea of a large cash reserve to keep so when you retire you could use that instead of your portfolio for income in case of a bad downturn at the time of retirement?

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M_to_the_G
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Re: Emergency Funds

Post by M_to_the_G » Wed Dec 03, 2014 8:48 am

mavi wrote:
M_to_the_G wrote:The difference is in the goals and thus the strategy for each. They are fundamentally different pots. The goal of having money invested is for retirement (or whatever purpose). The goal of having an emergency fund is to have immediately-available liquid money that can cover six months to one year of expenses in case of an emergency... without affecting your investments. An investment is not an emergency fund. It is either an investment or an emergency fund, but it isn't both. If you only have invested money, then you don't have an emergency fund. If you have an emergency fund, then there's no need to draw from your investments in case of an emergency. Those funds are invested for a reason, and the entire point is not to draw from them except to realize the goal of the investment, for example retirement.

It's a very easy to look at your financial spreadsheet and say, "Well, look at this! This emergency fund I created is just sitting there when it could be growing as a part of my portfolio." The problem is that you now no longer have an emergency fund. In fact, you don't even have investments anymore, because investments are for a concrete goal. Instead, you now have one "whatever" fund that you use for multiple purposes. That's not even considering the taxes, fees, potential losses and other costs you can run into if you want to quickly liquidate investments for an emergency.

I think it's a fallacy to see an emergency fund as dead money that's just sitting there when it could be invested. That's like looking at the concrete in a levee and thinking, "All these concrete blocks are just sitting here in this levee doing nothing. We can use them for building a barn. And if it starts to flood, no problem; we'll just tear the barn down and put the concrete blocks back in the levee."
It all depends on your financial situation - specifically, how significant a financial blow an "emergency" would be. If most of you investible assets are in IRAs and 401ks, then you do need a substantial emergency fund in a safe account. But if you have a large amount of money in taxable accounts that are sufficiently large to cover emergencies even in the aftermath of another 2008, then it may make sense to invest some or all of your emergency fund. If you decide you need an emergency fund of $50,000, but have $500,000 to invest in taxable accounts, you can feel free to invest some or all of the emergency fund in line with your risk tolerance, knowing that even in the worst bear market you'll have more than enough to cover an emergency. In contrast, if you only have $10,000 to invest, beyond your $50,0000 emergency fund, its best to keep it in safe assets.

What happens if your $500,000 is reduced to $200,000 in an economic meltdown. And right at the lowest point of the valley, when it hits $200,000, you suddenly need to take out that $50,000 for a series of emergencies (lost a job, medical bills, etc.) and can't replace it quickly? The aftermath, decades later, could be hundreds of thousands of dollars in lost retirement money. You can avoid this by divorcing the two pots, both in your accounting and in your thinking.
"It’s basically the plot of 'Charlie and the Chocolate Factory.' If you stick around, doing nothing, while everyone around you ****s up, you’re going to win big." - John Oliver

aw82
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Re: Emergency Funds

Post by aw82 » Wed Dec 03, 2014 9:44 am

M_to_the_G wrote:
mavi wrote:
M_to_the_G wrote:The difference is in the goals and thus the strategy for each. They are fundamentally different pots. The goal of having money invested is for retirement (or whatever purpose). The goal of having an emergency fund is to have immediately-available liquid money that can cover six months to one year of expenses in case of an emergency... without affecting your investments. An investment is not an emergency fund. It is either an investment or an emergency fund, but it isn't both. If you only have invested money, then you don't have an emergency fund. If you have an emergency fund, then there's no need to draw from your investments in case of an emergency. Those funds are invested for a reason, and the entire point is not to draw from them except to realize the goal of the investment, for example retirement.

It's a very easy to look at your financial spreadsheet and say, "Well, look at this! This emergency fund I created is just sitting there when it could be growing as a part of my portfolio." The problem is that you now no longer have an emergency fund. In fact, you don't even have investments anymore, because investments are for a concrete goal. Instead, you now have one "whatever" fund that you use for multiple purposes. That's not even considering the taxes, fees, potential losses and other costs you can run into if you want to quickly liquidate investments for an emergency.

I think it's a fallacy to see an emergency fund as dead money that's just sitting there when it could be invested. That's like looking at the concrete in a levee and thinking, "All these concrete blocks are just sitting here in this levee doing nothing. We can use them for building a barn. And if it starts to flood, no problem; we'll just tear the barn down and put the concrete blocks back in the levee."
It all depends on your financial situation - specifically, how significant a financial blow an "emergency" would be. If most of you investible assets are in IRAs and 401ks, then you do need a substantial emergency fund in a safe account. But if you have a large amount of money in taxable accounts that are sufficiently large to cover emergencies even in the aftermath of another 2008, then it may make sense to invest some or all of your emergency fund. If you decide you need an emergency fund of $50,000, but have $500,000 to invest in taxable accounts, you can feel free to invest some or all of the emergency fund in line with your risk tolerance, knowing that even in the worst bear market you'll have more than enough to cover an emergency. In contrast, if you only have $10,000 to invest, beyond your $50,0000 emergency fund, its best to keep it in safe assets.

What happens if your $500,000 is reduced to $200,000 in an economic meltdown. And right at the lowest point of the valley, when it hits $200,000, you suddenly need to take out that $50,000 for a series of emergencies (lost a job, medical bills, etc.) and can't replace it quickly? The aftermath, decades later, could be hundreds of thousands of dollars in lost retirement money. You can avoid this by divorcing the two pots, both in your accounting and in your thinking.
I'm a proponent of a separate e-fund for those of us with smaller taxable assets, but at the half-mil level, I think mavi makes a good point.

Let's assume the alternative to having $500,000 invested ($50k of which is e-fund) is to have $450,000 invested and a separate $50,000 e-fund. If you include the e-fund in your asset allocation in both scenarios (i.e., the separate $50,000 e-fund counts toward your bond allocation), then there isn't much of a difference, right?

If you don't count the separate $50,000 e-fund toward your asset allocation in the latter scenario, then comparing the two options comes down to whether you believe there's a greater probability of 5+ years of growth or of a crash+personal emergency within 5 (or 10) years.
Last edited by aw82 on Wed Dec 03, 2014 9:45 am, edited 1 time in total.

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backpacker
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Re: Emergency Funds

Post by backpacker » Wed Dec 03, 2014 9:44 am

packet wrote:
backpacker wrote:Investors need precisely two things: a checking account and a portfolio....
Thank you backpacker ... i do believe you've altered my course ever so slightly... after reading this post and several of your others on a different EF thread.

so, my personal situation... all of my efforts go toward saving in tax advantage accounts, i simply don't make enough to live comfortably and max them all out. As a result, my taxable "investment" account consists only of my emergency fund. so, to follow your post, i should make it part of my asset allocation in my entire portfolio. so my first reaction was, fine, i'll switch to the growth fund and it's 80/20 mix. but, as i said, that's all i have in taxable... so that's just to risky for me to sleep at night.

thus, i'll meet you half way .... i'll stick with my plan to use the 40/60 fund in taxable... but i'll also shift out of bonds in tax advantaged accounts in proportion to maintain my 80/20 overall AA. i'm talking <5% today and less as time goes on, so this won't trigger a balancing event for me now. Ok, so that's not half way, that's entirely your way (if i understood you correctly), but i like it!

as to my 5k in the online savings... i'll keep that too... the benefit for me is that it's not part of the checking account so to pull out of it requires a moment or three of thought, which helps me maintain a certain level of frugal-ness with it. it also serves as an overflow area for money that i might invest later or splurge on something frivolous... a buffer zone if you will... :)

cheers and thanks again,
packet
Hi packet! I'm glad that I may have said something useful. :) I think your plan sounds really good. I'm still trying to sort this out myself, but I've started thinking in terms of "working money" and "investments". It's good to have enough "working money" that your life goes smoothly and it sounds like that's what your savings account helps you do. In fact, I think that's what most people mean by "having an emergency fund". It means having enough cash that you can easily pay your bills. Bogleheads, though, have a tendency to take things to the extreme, socking away six months or even several years worth of spending in an "emergency fund" or "safety bucket" or whatever. I think that especially doesn't make sense. If you want more security, just add the money to your total portfolio, then (a) decrease the stocks, (b) increase the bonds/cash, and (c) rebalance going forward.

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backpacker
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Re: Emergency Funds

Post by backpacker » Wed Dec 03, 2014 9:48 am

M_to_the_G wrote: What happens if your $500,000 is reduced to $200,000 in an economic meltdown. And right at the lowest point of the valley, when it hits $200,000, you suddenly need to take out that $50,000 for a series of emergencies (lost a job, medical bills, etc.) and can't replace it quickly? The aftermath, decades later, could be hundreds of thousands of dollars in lost retirement money. You can avoid this by divorcing the two pots, both in your accounting and in your thinking.
Pots don't help. How much money you have after a crash depends on (a) how much total money you had in stocks and (b) how much total money you had in bonds and cash. The money doesn't care whether it lives in a pot you call "retirement money" or a pot you call "emergency fund".

What is true is that if you don't have a separate emergency fund, then you need a more conservative portfolio to compensate. Your example nicely illustrates that I think.

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Re: Emergency Funds

Post by aw82 » Wed Dec 03, 2014 9:51 am

backpacker wrote: ...I'm still trying to sort this out myself, but I've started thinking in terms of "working money" and "investments". It's good to have enough "working money" that your life goes smoothly and it sounds like that's what your savings account helps you do. In fact, I think that's what most people mean by "having an emergency fund". It means having enough cash that you can easily pay your bills...
I like the way you frame this, especially if you apply it to those of us with low taxable assets. To build on this line of thinking, one could argue that having an e-fund (or buffer, or cash reserve, or whatever you want to call it) is very bogleheadish because it allows you to stay the course in your investments when you go through a period of cash flow volatility (loss of job, cross-country move, car crash, or anything else that would require you to draw from your portfolio).

The amount one keeps in this fund should then be relative to the potential volatility of your life and cash flow.

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Re: Emergency Funds

Post by backpacker » Wed Dec 03, 2014 10:03 am

aw82 wrote: My overall point is that you posit that e-funds are attractive because they "feel" safer, but I think it's perhaps more accurate to say they are attractive because they help many of us avoid penalties in the case of an emergency while simplifying retirement planning.
Thanks aw82! I agree. Regardless of whether investors think of themselves as having an emergency fund, they need a big chunk of their assets in a place where they can get at them without huge penalties. I think of this as a portfolio placement issue rather than an emergency fund issue. That is, there's good reason for investors to not put their entire portfolio in tax-advantaged space.

As for the planning...I'm genuinely not sure what the best way to do this is. I'm sure different things are helpful for different people. One idea is that investors could still determine their overall allocation by thinking in terms of "buckets" of money if they like. Bucket A is for emergencies and will be invested in bonds. Bucket B is for the kids' education and will be invested 60/40. Bucket C is for retirement and will be invested 80/20. That's fine. What I'm suggesting is that at the end of this process, the investor should lump all those buckets together into one big portfolio with a single asset allocation. That simplifies things and eliminates certain weird results, like increasing your overall stock allocation after withdrawing money for a personal emergency.

[Edit] Just saw your last post. Definitely. The main idea is for investors to not have everything in a 401k or other accounts where getting the money out will be slow and painful.
Last edited by backpacker on Wed Dec 03, 2014 10:18 am, edited 1 time in total.

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bertilak
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Re: Emergency Funds

Post by bertilak » Wed Dec 03, 2014 10:18 am

The way I look at it is that your tax-advantaged space is valuable in and of itself. An emergency fund is something that is outside that space. In other words, "buckets" do matter if they are in different types of accounts. If there is an emergency, or if the market takes a hit, it is nice to be able to get cash without depleting your tax-advantaged space.

Also, at least with Vanguard, there are rules about frequent trading and it might come in handy some day to be able to get some cash without triggering a restriction on a fund just because you needed the cash. This is true in both tax-advantaged and taxable accounts.

I keep a "float" of cash in my taxable account. With my checking account, lines-of-credit and credit cards, I can smooth normal day-to-day bumps in the road, but if I get to a really big bump (and I just did with the need to replace my septic system) the larger float in my taxable account handles it. I then replenish that slowly as my cash flow evens out to the point I am getting some left over cash to (re)invest.
May neither drought nor rain nor blizzard disturb the joy juice in your gizzard. -- Squire Omar Barker (aka S.O.B.), the Cowboy Poet

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Re: Emergency Funds

Post by Drew31 » Wed Dec 03, 2014 10:35 am

Well I'm enjoying this conversation as this is a topic I've been struggling with recently. I like the way you are framing this up backpacker as I think it's helping me sort through my thoughts on this. I've recently stopped calling my emergency fund an EF and now call it a "cash reserve" which I have in checking. My thought is I want X amount in this to help make day to day budgeting go smoothly. I don't want this amount too large, perhaps 2 months expenses. I'm then trying to determine how I want to proceed after that.

Two other items that tend to cause complexity (for me)

1. Short term savings goals (car, down payment). Is it best to bucket these separate or include in a portfolio? I almost want to bucket them since they really aren't "investments" as delayed spending.

2. HSA. You want some cash in this to cover deductible/OOP, after that I'll invest it. It's difficult for me on how I want to account for these given that the HSA is for a limited purpose.

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Re: Emergency Funds

Post by mavi » Wed Dec 03, 2014 11:30 am

M_to_the_G wrote:
mavi wrote:
M_to_the_G wrote:The difference is in the goals and thus the strategy for each. They are fundamentally different pots. The goal of having money invested is for retirement (or whatever purpose). The goal of having an emergency fund is to have immediately-available liquid money that can cover six months to one year of expenses in case of an emergency... without affecting your investments. An investment is not an emergency fund. It is either an investment or an emergency fund, but it isn't both. If you only have invested money, then you don't have an emergency fund. If you have an emergency fund, then there's no need to draw from your investments in case of an emergency. Those funds are invested for a reason, and the entire point is not to draw from them except to realize the goal of the investment, for example retirement.

It's a very easy to look at your financial spreadsheet and say, "Well, look at this! This emergency fund I created is just sitting there when it could be growing as a part of my portfolio." The problem is that you now no longer have an emergency fund. In fact, you don't even have investments anymore, because investments are for a concrete goal. Instead, you now have one "whatever" fund that you use for multiple purposes. That's not even considering the taxes, fees, potential losses and other costs you can run into if you want to quickly liquidate investments for an emergency.

I think it's a fallacy to see an emergency fund as dead money that's just sitting there when it could be invested. That's like looking at the concrete in a levee and thinking, "All these concrete blocks are just sitting here in this levee doing nothing. We can use them for building a barn. And if it starts to flood, no problem; we'll just tear the barn down and put the concrete blocks back in the levee."
It all depends on your financial situation - specifically, how significant a financial blow an "emergency" would be. If most of you investible assets are in IRAs and 401ks, then you do need a substantial emergency fund in a safe account. But if you have a large amount of money in taxable accounts that are sufficiently large to cover emergencies even in the aftermath of another 2008, then it may make sense to invest some or all of your emergency fund. If you decide you need an emergency fund of $50,000, but have $500,000 to invest in taxable accounts, you can feel free to invest some or all of the emergency fund in line with your risk tolerance, knowing that even in the worst bear market you'll have more than enough to cover an emergency. In contrast, if you only have $10,000 to invest, beyond your $50,0000 emergency fund, its best to keep it in safe assets.

What happens if your $500,000 is reduced to $200,000 in an economic meltdown. And right at the lowest point of the valley, when it hits $200,000, you suddenly need to take out that $50,000 for a series of emergencies (lost a job, medical bills, etc.) and can't replace it quickly? The aftermath, decades later, could be hundreds of thousands of dollars in lost retirement money. You can avoid this by divorcing the two pots, both in your accounting and in your thinking.
1. A well balanced portfolio should not lose 60%; although the stock component of the portfolio certainly could.
2. In your scenario, the $450,000 portfolio is reduced to $180,000; what we are talking about $30,000 when you add in the safe emergency fund.

You argument is one of asset allocation. The same argument applies to ones investment portfolio and why a 100/0 stock allocation is dangerous - if there is a market downturn, and you don't have bond funds to sell to reallocate to stocks, then you miss out on years of appreciation. The flip side is also true - if there is a 15 year bull market, you've lost years and years of appreciation that you could of gotten including your e-fund as part of your overall portfolio.

If you have the money to cover an emergency - even in a dramatic selloff - then it becomes a question of asset allocation and risk aversion. You don't need to segregate your e-fund from your other assets.

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backpacker
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Re: Emergency Funds

Post by backpacker » Wed Dec 03, 2014 1:02 pm

Drew31 wrote:Well I'm enjoying this conversation as this is a topic I've been struggling with recently. I like the way you are framing this up backpacker as I think it's helping me sort through my thoughts on this. I've recently stopped calling my emergency fund an EF and now call it a "cash reserve" which I have in checking. My thought is I want X amount in this to help make day to day budgeting go smoothly. I don't want this amount too large, perhaps 2 months expenses. I'm then trying to determine how I want to proceed after that.

Two other items that tend to cause complexity (for me)

1. Short term savings goals (car, down payment). Is it best to bucket these separate or include in a portfolio? I almost want to bucket them since they really aren't "investments" as delayed spending.

2. HSA. You want some cash in this to cover deductible/OOP, after that I'll invest it. It's difficult for me on how I want to account for these given that the HSA is for a limited purpose.
These are good questions and I'm not sure what the best solution is. Here's one idea and a a spreadsheet with a simple example.

The hypothetic investor has 50,000 for an emergency, 100,000 for a downpayment, and 500,000 for retirement. She has a conservative allocation of 60% bonds, 20% cash, and 20% stocks for the emergency money. Since the downpayment is in the near future, she wants that invested at 20/80. Retirement is farther away, so she is 80/20 for her retirement money. The result is a total asset allocation of about 66% stock, 32% cash, and 2% cash. Now that our investor has her total portfolio allocation, she can forget about the buckets and just manager her total assets at 66/32/2, rebalancing as necessary to correct for market movements.

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Re: Emergency Funds

Post by trueblueky » Wed Dec 03, 2014 9:10 pm

backpacker wrote: The hypothetic investor has 50,000 for an emergency, 100,000 for a downpayment, and 500,000 for retirement. She has a conservative allocation of 60% bonds, 20% cash, and 20% stocks for the emergency money. Since the downpayment is in the near future, she wants that invested at 20/80. Retirement is farther away, so she is 80/20 for her retirement money. The result is a total asset allocation of about 66% stock, 32% cash, and 2% cash. Now that our investor has her total portfolio allocation, she can forget about the buckets and just manager her total assets at 66/32/2, rebalancing as necessary to correct for market movements.
When she makes that down payment, her AA jumps to 75/24/2 (doesn't add to 100% due to rounding). Should she rebalance to 66/32/2 now? Or should she leave her retirement fund 80/20 and her EF 20/60/20?

I believe a saving bucket for a known event (house, college) years before retirement should have a different allocation than your retirement funds because of the different time frames. They're generally invested in a different account as well (529 for college, savings account or CDs perhaps for a house down payment in two years). My overall AA went up as I depleted the 529s, but my retirement AA stayed the course.

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Re: Emergency Funds

Post by Drew31 » Wed Dec 03, 2014 9:57 pm

backpacker wrote: These are good questions and I'm not sure what the best solution is. Here's one idea and a a spreadsheet with a simple example.
Tried the link but was asking for me to request access. Stopped at that point...

Makes sense what you're explaining though. Still trying to digest how that would work in my situation - plus I think it gets tricky when I'm making multiple contributions to the different accounts. I do think once you reach some point of assets, this approach becomes much easier to implement.

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Re: Emergency Funds

Post by backpacker » Thu Dec 04, 2014 1:33 pm

trueblueky wrote:
backpacker wrote: The hypothetic investor has 50,000 for an emergency, 100,000 for a downpayment, and 500,000 for retirement. She has a conservative allocation of 60% bonds, 20% cash, and 20% stocks for the emergency money. Since the downpayment is in the near future, she wants that invested at 20/80. Retirement is farther away, so she is 80/20 for her retirement money. The result is a total asset allocation of about 66% stock, 32% cash, and 2% cash. Now that our investor has her total portfolio allocation, she can forget about the buckets and just manager her total assets at 66/32/2, rebalancing as necessary to correct for market movements.
When she makes that down payment, her AA jumps to 75/24/2 (doesn't add to 100% due to rounding). Should she rebalance to 66/32/2 now? Or should she leave her retirement fund 80/20 and her EF 20/60/20?
The latter I think. The difference with depleting a house fund and depleting and emergency fund is that once you've bought a house, you're done buying a house. But emergencies usually don't work like that. It's not generally true that having one emergency means that you won't have another. The fact that my car died and I needed to buy a new one does not make it less likely that I'll lose my job next week or need to fix the room or replace the hot water heater...

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