Emergency Funds (Australia)

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Financegrom
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Emergency Funds (Australia)

Post by Financegrom »

Hi,

I am 23 years old and living in Australia.

I am looking at setting up a 3-month emergency fund and I'm wondering, is it ok to have emergency funds in a Government Bond ETF?

For example, VAF - Vanguard Australian Fixed Interest Index ETF, fee: 0.15%

Or should emergency funds absolutely be in a high-interest savings account?

Thanks in advance for any feedback!
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andrew99999
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Re: Emergency Funds (Australia)

Post by andrew99999 »

Yeah, you can have it in a bond fund like VAF.

Although (at least for now), high interest savings accounts offer (slightly) higher returns with zero risk/fluctuation of capital, so I'd choose that as being (sightly) more appropriate. But VAF is still a perfectly reasonable option.

Also, FYI, VAF is about 70% government bonds and 30% high quality corporates. A pure government bond fund would be VGB. But VAF is just fine.
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crinkles2
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Re: Emergency Funds (Australia)

Post by crinkles2 »

Yes that is fine; but not risk free, but very low risk.

you will pay tax on any gains and income of course, and you will have buy sell costs.

If you have an offset to a mortgage, that would be better, and what I do.
Topic Author
Financegrom
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Re: Emergency Funds (Australia)

Post by Financegrom »

Ok sweet, thanks for the feedback guys
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Financegrom
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Re: Emergency Funds (Australia)

Post by Financegrom »

andrew99999 wrote: Sun Nov 21, 2021 8:47 pm Yeah, you can have it in a bond fund like VAF.

Although (at least for now), high interest savings accounts offer (slightly) higher returns with zero risk/fluctuation of capital, so I'd choose that as being (sightly) more appropriate. But VAF is still a perfectly reasonable option.

Also, FYI, VAF is about 70% government bonds and 30% high quality corporates. A pure government bond fund would be VGB. But VAF is just fine.
Hey andrew99999,

In regards to HISA's having slightly higher returns, from what I can see VAF has a weighted average coupon of 2.8% compared to the highest Savings account which I know of being ING with an interest rate of 1.35%.

Is the Weighted average coupon not the right thing to compare with the savings account interest rate or I am missing something else?
HKexpat
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Re: Emergency Funds (Australia)

Post by HKexpat »

Financegrom wrote: Sun Nov 21, 2021 11:23 am Or should emergency funds absolutely be in a high-interest savings account?
I think it helps to think about the purpose of the emergency fund. Are you planning for an emergency where you need to go to an ATM and take out $XXXX in cash? If so, you need to have that much in a savings account. Usually, when people talk about "emergency expenses," (especially on the order of 3 months of expenses) they're really talking about things that are unexpected but not immediately due (e.g. could be paid with a credit card).

If you don't need immediate liquidity, then keeping your "emergency funds" in a taxable investment account is pretty sensible. You can liquidate stocks or bonds and transfer them to a checking account within 4 business days, which is generally quick enough. The value of your overall portfolio will always fluctuate, so there's really no reason to keep an arbitrary amount in another account and make sure that this particular sliver of the portfolio never loses (nominal) value.
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andrew99999
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Re: Emergency Funds (Australia)

Post by andrew99999 »

Financegrom wrote: Mon Nov 22, 2021 1:23 pm Hey andrew99999,

In regards to HISA's having slightly higher returns, from what I can see VAF has a weighted average coupon of 2.8% compared to the highest Savings account which I know of being ING with an interest rate of 1.35%.

Is the Weighted average coupon not the right thing to compare with the savings account interest rate or I am missing something else?
With high-grade bonds such as those issued from the government of developed countries (VGB, for example), YTM is what you should be looking at.
Valuethinker
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Re: Emergency Funds (Australia)

Post by Valuethinker »

andrew99999 wrote: Tue Nov 23, 2021 3:26 am
Financegrom wrote: Mon Nov 22, 2021 1:23 pm Hey andrew99999,

In regards to HISA's having slightly higher returns, from what I can see VAF has a weighted average coupon of 2.8% compared to the highest Savings account which I know of being ING with an interest rate of 1.35%.

Is the Weighted average coupon not the right thing to compare with the savings account interest rate or I am missing something else?
With high-grade bonds such as those issued from the government of developed countries (VGB, for example), YTM is what you should be looking at.
Absolutely right.

For the OP, the reason is that coupon just takes into account how much you get for holding $100 (face value = par value = redemption value) of bonds.

So 2.8% coupon would be $2.80 pa (might be paid quarterly or semiannually depending on which government bond we are talking about)

But interest rates are very low right now-- generally even lower than the 1930s (I can't remember whether any states in the Commonwealth of Australia defaulted in the 1930s, but it certainly was a very tough time). That 2.80 is very attractive for an investor, say a large pension fund-- a fixed income guaranteed for 5 years.

So they will pay more than $100 (face value or par amount) for the bond.

They know they will lose money on the bond - pay $110 but only get back $100 5 years from now. But their total return will also include the $2.80 pa coupons 5 x 2.80 = $14.00. What Yield To Maturity (called the Internal Rate of Return in other contexts and Excel has a nice function =xIRR()) does is figure out how to balance that $14 of coupons over 5 years & the loss of ($100-$110) $10 at redemption/ maturity.

So most bond funds will have much lower average YTMs (wtd average of all the bonds in the fund) than 2.8% right now. Typically around 1-2% depending on the riskiness of the bonds (to default) and what currency we are in.
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asset_chaos
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Re: Emergency Funds (Australia)

Post by asset_chaos »

At 23 this may not be on your mind, but, when you get around to buying a house and having a mortgage, the best place for emergency funds may be a 100% offset account. Funds effectively earn your mortgage rate after tax and no risk (except that a future government might change the generous tax treatment of offset accounts).
Regards, | | Guy
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andrew99999
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Re: Emergency Funds (Australia)

Post by andrew99999 »

asset_chaos wrote: Wed Nov 24, 2021 3:42 pm At 23 this may not be on your mind, but, when you get around to buying a house and having a mortgage, the best place for emergency funds may be a 100% offset account. Funds effectively earn your mortgage rate after tax and no risk (except that a future government might change the generous tax treatment of offset accounts).
Good point.
Also, a redraw is not the same as an offset. Offsets sometimes cost a little more, but:
1. If you are ever going to convert to an IP, the cost will pay for itself a hundred times over in tax deductions.
2. Funds put into a redraw are considered paying down the loan and the bank can remove access (a recent example is during the height of covid). This is possible with an offset too as per the "all monies" clause in your loan agreement but is unheard of while you are making the loan repayments on time.
Topic Author
Financegrom
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Re: Emergency Funds (Australia)

Post by Financegrom »

This is all super helpful, thanks everyone!
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