Emergency Funds are NOT Investments
At this time last year; we were all enjoying money market returns nearing 5 percent. Many were not only parking their money in these liquid funds for emergency cash, but using them as active investments. Unfortunately, one of the downsides of the Federal Reserve’s recent interest rate cuts is the declining returns money market funds provide. Currently, money market funds average a staggering 2.5 percent – a number that hardly outpaces inflation, but should we even care? In my opinion, the answer is without a doubt, no.
Emergency Funds are NOT Investments
That’s right, I said it – emergency funds are not investments. Emergency funds, which should typically hold at least two months worth of living expenses, are intended to serve as a last resort to unavoidable life situations. Whether your emergency fund is earning 5 percent or 2 percent, it doesn’t matter because the liquid safety net these funds provide us, by far outweigh the slight increase or decrease in yielding amounts.
Avoid Looking for Higher Returning Savings Vehicles
Try to get over the fact that your emergency fund seems to be losing money when taxes and inflation are factored into the equation. Don’t be tempted by different financial offers to park your savings in CD’s or by purchasing bonds. By reallocating your money into these higher returning vehicles, you are forfeiting the essential purpose of your emergency fund, which is liquidity. You never know when your savings is going to have to be tapped into; a life changing event could unfortunately be around the corner, which is why it is important to be insured. Emergency funds essentially serve as a premium-free insurance plan, by allowing you to save by paying yourself month to month. Even if you need your savings to make a property tax payment, you need easy access to this cash, which money market funds provide.
When times are good and your emergency fund is earning a surprising 5 percent, consider it a bonus. When times are like the current, swallow your smaller returns and take confidence in the insurance your emergency fund provides. $
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Comments
@ FG: I think you might be on to something about student loans having the potential to crumble. Going to look into it. Consider it stumbled.
I personally have discovered the lower the interest rate, the less guilty I feel about pulling some out in a real emergency. If I were earning 6% (or higher on a stock fund) I would really kick myself for having to make a withdrawal. By giving up a few percentage points I save myself some sanity.