Where do you invest your emergency fund? Be careful what advice you follow!

Disclaimer: This is not specific advice for any individual person or household. All situations are different and should be analyzed as part of a comprehensive financial plan.

One of the core elements of a financial plan is making sure clients have an emergency fund. The Wall Street Journal ran an article on December 4th discussing how to invest an emergency fund. http://online.wsj.com/news/articles/SB10001424052702304106704579135591043205838?KEYWORDS=Andrew+Blackman . Note that you may need a subscription to see this article. Fidelity Investments reprinted this article and you can get it for free here: https://www.fidelity.com/insights/personal-finance/how-to-invest-emergency-fund. Basically the article said that new research from the Journal of Financial Planning says that keeping your emergency fund in cash may not be the best idea, especially for affluent households.

So I thought I would discuss a little bit about why this may be poor advice (in spite of apparent endorsement by Fidelity Investments).

First of all, lets talk about what is an emergency fund. Basically, it is enough money for 3 to 6 months of expenses kept in a very liquid form that will be available in case of an emergency. What is an emergency? It could be an unforeseen need for spending, such as medical expenses, or your car breaking down and needing expensive repairs, or your parent suddenly needing a nursing home with no immediate way to pay. An emergency could also be loss of income due to job loss. Note that an emergency is not suddenly needing a vacation to Monte Carlo. Lets keep this in perspective, folks!

Where do you typically want to invest your emergency fund? Well, the idea of the emergency fund is that it is completely liquid, which means that it can be used instantly and you don't need to do much to get it and that it will maintain its value. Good places to keep your emergency fund include a high-interest money market savings account or simply in a savings account. Bad places include annuities, any kind of stock, REITs (traded or un-traded), or any kind of bond longer than 30 days in duration.

The article says that affluent people should think about keeping their emergency fund in less liquid forms because of the opportunity cost of investing this money. Now I think this is just plain wrong. The idea of an emergency fund is that it is available immediately with no cost or loss of value in liquidating it. Are affluent people different in this need? Look at 2008 and lets say you were a mortgage banker who was making lots of money in the housing boom. Suddenly the boom ended, you probably lost your job, and at the same time even if you were investing smartly, all your investments tanked. You went from affluent to unemployed like you were going 90 miles an hour and hit a brick wall. Your emergency fund would be like fresh water to someone on a desert island. Just imagine if you had this invested in one of those supposedly safe investments and that investment tanked too. Would you care about any opportunity cost of having your emergency fund invested? You would be ecstatic that you had cash that wasn't invested in anything more risky than a savings account.

So, I don't care who you are. Very affluent, or living from paycheck to paycheck. Number 1:you need an emergency fund. Number 2: You need it to be invested completely safely. No risk at all!

Treat Yorself!!! (Gönn Dir was!!!!)

I found this poem while going through my parent's belongings. I thought it was worth sharing. There is no attribution.

The Latin Proverb "Carpe Diem"
Happens to be a real gem
It tells you to make of each day the best
Good work, good play, and a little rest
The days are on a dizzy flight
And life rushes by in a crazy slide
And your money however much you may save
Will not follow you into the grave
So do not collect a tremendous treasure
Enjoy it for what gives you pleasure
Because the ones of you will inherit
May not have so much merit
And decry that they do not get more
And at each other become sore
Full of envy for those who have done better
As made out in the testamentary letter
Their thourghts for you disappear fast
And only rarely over the years will last
So enjoy what you can when alive and rich
And don't worry what comes after you are in the ditch!

Note that you have to already BE rich to have this poem be applicable!