How to invest emergency fund?

**disneysteve** · 12-23-2009, 07:48 AM

You could consider a short-term bond fund. Riskier than a CD but not nearly as risky as stocks. Just keep in mind that your principal can fluctuate.

**GREENBACK** · 12-23-2009, 08:09 AM

By "long term" I presume you're saving the 20k for big emergencies like job loss, major health, etc.. If that's the case then it really doesn't need to be very liquid. You can probably get by until you access this money. but it needs to be somewhat accesible without penalties or any other obstacles.

Do you actually need 20k? You have a few avenues to invest this if this is beyond what your actual immediate emergency needs are. As stated, bonds are one fairly safe choice as are long term CD's or CD laddering. You might consider doing this with a portion of the money while keeping another portion more liquid. You likely aren't going to need the 20k all at once so maybe split things up a bit. I say this not knowing your situation in life.

**Mantaray14** · 12-23-2009, 08:53 AM

What's the time frame on bond fund investments? Like I said, we have a short term emergency fund that will cover small emergencies when we have to"dip".

**Beppington** · 12-23-2009, 09:24 AM

The 3 month interest penalty sounds OK to me, as you've said this is emergency money that you probably won't need to withdraw early anyway.

**Mantaray14** · 12-23-2009, 09:35 AM

Originally posted by Beppington View Post

The 3 month interest penalty sounds OK to me, as you've said this is emergency money that you probably won't need to withdraw early anyway.

True, but between the penalty and the low interest rates, I'm very underwhelmed with CD's right now. Laddering CD's sounds even more underwhelming (all that trouble for .5 - 2.25% returns?). I'll look into the bond funds just to switch things up I think.

**Scanner** · 12-23-2009, 10:09 AM

Most pundits agree that "laddering" CD's is the best way to maximize return on your EF, while eliminating prinicipal risk.

You just buy a 3 month CD and then when the 3 months is up, you have that rollover into another 3 months. . .but you may also buy a 6 month CD at that point getting a good rate.

The idea is to never be denied access to your EF more than 90 days (you could use short term credit in the meantime).

It kind of depends tho. . .you don't want a large c/c fee socking away your interest so you may want 30-60 days to be the maximum time from getting to your money, penalty free.

**kork13** · 12-23-2009, 10:28 AM

It's just an idea, and one that I've not fully played out yet, but possibly another option...

Why not put your $20k into a 7-10 yr CD? The rates are higher (above 4%), and as long as you don't access it for at least a year or so (I haven't calculated the break-even point), even with the 3-mo penalty, you'd come out ahead if you do end up having to take it out before then (whether out of need or desire to put it into a higher-yielding CD).

Thoughts? As I said, just an idea, haven't put much thought into it right now.

**jIM_Ohio** · 12-28-2009, 08:39 AM

Originally posted by Mantaray14 View Post

Hello,

This is my first post here, although I have been a browser for the past few months. I usually consider myself an informed investor, but I am at loss at this point. We have about 20k in our "long term" emergency fund. It was in an HSBC CD that was receiving 4% last year, then2.5% this yr. until it matured last month and it was cut down to 0.5% (thanks but no thanks HSBC). ING is offering 2% and Ally Bank 1.85%, but they both have 3 month interest penalties for early withdrawal. Kind of stiff penalties IMO, for emergency fund dollars. We have about another 7k in various credit union and savings accounts for "short term" emergencies, like car & home repairs, so the 20K doesn't need to be completely liquid. Can anyone offer advice on how I should be handling this? I'm also curious if there is anything other than CD's to find better returns, like bonds or tips (or is that too risky?)

Thanks in advance,

Rick

Long term emergency fund could use some further comments from you.

With the little information you provided, I see

20k cash you want to invest at higher than .5% return
7k cash in credit union and savings accounts.

Here is what I did not see
you want a return higher than .5%, but you did not mention how much higher or what the "penalties" might need to be (or not be) to make you feel comfortable.

Here is my disclaimer- research your own answer, some of my advice might be bad, and you need to look into this yourself.

Is the 7k in savings and credit union in a savings account? If so, best guess is that it is returning .5%?

Is this 7k 3 months expenses? If not, take some of the 20k and add it to 7k so you have 3 months expenses in short term savings.

---
Here is my advice

1) keep 3 months in liquid cash. I would ladder three $2300 91 day CDs in the credit union (for example). Every month $2300 is available. Most CDs have a look back period (mine are 10 days) so if a CD matures Jan 1, I have until Jan 11 to access it penalty free. On Feb 1 there is another CD maturing (worth $2300) so you have 20 days without access to cash. If those 21 days bother you, consider the 3 month interest penalty is $11.50 per month (estimated). Or consider having $1250 mature on the 1st and $1250 mature on the 15th of each month so there are only 5 days each month which create a penalty for accessing money.

2) remember this advice- if anything you read from me sounds too risky, re-read #1 and remember this...
a) how often would any emergency need all $27,000?
b) how often would any emergency need all $7000 within 10 days?
c) how often would any emergency need $2300?
d) do you have access to credit cards with a $7000 credit limit? Do you believe most emergencies take credit cards?

and my last point with bullet #2- if anything below seems risky, could you add more cash to #1 (4 months expenses instead of 3 months, or 6 months expenses instead of 3 months)?

3) Find a conservative asset allocation for the remainder of the emergency fund. This is something you are comfortable with. I call this a secondary emergency fund. Generally used if I need a new roof, new HVAC, new car or something BIG which costs much more than the $2300 or $7000 mentioned above.

The fund I use is PRPFX (Permanent Portfolio)
Two others I would look at RPSIX (T Rowe Price Spectrum Income) or Vanguard Wellesley.
all of these funds own some stocks, all of these funds also provide excellent mid term and long term returns with not as much risk as the whole stock market.

My logic is this.
If you did a 7k/20k split (primary EF/secondary EF) the goal of the secondary is to replace the primary when you tap it with improved returns (improved relative to cash). For PRPFX I would expect about 7% returns (which is $1400 per year). In 2 years, PRPFX could replace 1 months worth of expenses. For Wellesly, it has a 40-60 allocation and I would expect about 7% returns from that as well. From RPSIX, it is about 15% stocks and 85% bonds, and I would expect possibly 5.5% returns from that.

The risk is that you might put 20k into fund, and in 9 months have an emergency, and the 20k might have dropped to 18k (10% loss).

My question to you would then be- if you did a 7k/20k split, and needed to tap the 20k in 9 months, are you OK with the 10% loss or waiting to tap the money in the secondary EF?

If not, would a larger primary justify the risk of the secondary? For example if it was a $14k/13k split make you comfortable?

14k is $2300 in a 6 month CD ladder. Each month still earns you only $11.50 per CD (as described above).
$13k is in secondary EF. 7% return on this is $910. Every 2.5 years you could replace one of the CDs if you had to tap it.

And I would keep going back and forth on this (12 months expenses cash/ balance in secondary EF) until you were satisfied with the risk/reward.

In general:
1) If you are self employed, or have volatile employment, keeping 24 months in primary EF is about where the risk usually is not worth it (meaning a self employed person keeping only 6 months expenses in cash is too much risk, but at 24 months expenses in cash, the secondary EF with higher risk appears worth it).
2) The younger you are, the more the primary/secondary approach benefits you (because the growth on 7% of a small amount is better than the growth of 2% on a much higher amount over same time periods.
3) If you can add money (even $50/month) to emergency fund every month, this system can really help you... add the new money to cash and then once per year, direct about 30% of it to secondary EF if no emergencies existed.

This is not for everyone- I do not know your age or situation you know if what I do applies to you or not.

How to invest emergency fund?