How I'm Making Sure My Rainy-Day Funds Don't Get Washed Out
I wouldn’t say life is easy with the training I’m going through right now, but there’s a bright side to being a single guy with only enough time to work, study, eat and sleep: There’s really not enough time to spend the money I earn.
While maxing out an IRA and contributing to the equivalent of a 401k, I built up enough cash to cover expenses for six months. I followed the advice of family and professionals by calling the money an “Emergency Fund” and put it in what used to be a high-yield savings account. Now that account doesn’t earn enough interest to pay for the gas it would cost to drive to the bank and make a withdrawal.
The image of my money lounging around at some bank doing nothing while I slaved away at work all day was driving me crazy. Sure, it was accessible “just in case,” but between low interest rates and inflation, I was really just paying someone to hold it for me.
So I set out to find a better place for my money. It was time for my cash to build some character, go out in the world, and earn it’s keep. Then give all that keep to me. Here's a list of my criteria for the account, along with my reasoning behind each item, and what options it takes from the table:
- Expected returns outpace inflation
- I want my money working and gaining purchasing power with time, and can accept a certain amount of risk to do it.
- Until I see APY’s above 4% again, this eliminates basically every savings account and CD out there right now in addition to money market accounts, high-yield checking accounts, etc.
- Funds accessible within 10 business days
- Faster shouldn’t be necessary. My work would let me know months ahead of time if I was going to be let go, and the budget I use already has a month buffer on expenses. Having a delay would prevent me using it for any sort of impulse buys as well.
- CDs, T-bills, bonds – anything with a time limit to mature is out.
- Not penalized for withdrawal at any time
- Self-explanatory. If things really go bad and I need cash, I’m not paying to get to what’s mine.
- Again, CD’s and savings bonds are out of the picture, along with tax-deferred accounts like just calling an IRA or my 401k my emergency fund.
- Minimum time spent managing
- A little risk is alright, but spending time managing it is out of the question.
- This means no day-trading with emergency fund money. Also, eliminates the idea of using a Prepaid Credit Card like Mango that has pretty great interest rates, but would make me direct deposit at least $500 a month to not get penalized, spend a certain amount to make sure I don’t hit $5k and lose the interest rate, and then there’s the… well, you get it. It’s complicated, and more trouble than 6% interest on 5 grand is worth.
So where did that leave me? A couple options were still out there.
Peer to peer lending. I’d heard a lot about companies like Prosper and Lending Club and was intrigued that I could invest in their safest loans and get around 4% return on average. I would have gone farther with this, but unfortunately not all states allow it, and even if they do you have to meet certain net worth or annual income requirements.
The other option was some sort of fund with a broker, specifically Vanguard because I already have my IRA with them and they consistently have the lowest fees, and I can purchase Vanguard funds for free. I looked at Dividend Growth, bond funds, and others, but I finally made a decision after reading a book loaned to me by a friend, "A Random Walk Down Wall Street" and deciding what risk I could sleep with. I went with putting my emergency fund into the Vanguard S&P 500 Index ETF. Here’s why:
First, the S&P Index typically in the short term performs better than 48% of managed funds, and in the long term goes up to more than 70%. Anyone who’s read the book can see its influence here. I’m confident that over time it will not only beat inflation but provide a competitive return to any other option out there.
Second, and more importantly, the risk was acceptable. From October 2007 to March 2009 the fund dropped in value 56% in what is now being called the worst economic downturn since the Great Depression. Worst case scenario is this happening again. And I lose my job. And get hit by a car. I could go on, but you get the picture. By putting enough money in to cover twice over what I need for six months of living, I’m confident I’ll have the money I need when the time comes.
I wrote this post mostly just to organize my thoughts and my pretty extensive research on what to do with emergency money. I’m aware it’s boring and dry, but the great thing is, the decision is made and I don’t have to think about something this boring and dry for a long time. I can sleep just a little better knowing that I’m reasonably protected from a no-kidding emergency, and that my rainy-day fund is doing something even while the sun is shining.