This is perhaps the most important step to becoming wealthy. Often we think of investing as the step to financial wellness and growth. However, life is full of events that are expensive on the wallet. Life happens, I plan for events like car repair, job loss, and or need to leave the country by having an emergency fund. If one does not have liquid cash available to cover immediate expenses and individual will need to either
- Take debt to cover the expense
- Sell assets (likely at a loss)
Both of these scenarios are much more costly than having some money set aside without growth or minimal growth. I have a tendency to dislike the idea of money sitting idle without growth. However, after running the numbers, the difference in time till financial independence with my emergency fund growing vs not growing is minuscule.
By having this extra money set aside give you a buffer between you and emergencies. There have been many occasions where I had an emergency but the amazing thing is that having the fund gives such financial stability that I was able to cover this by moving funds in my budget to cover the expense.
When Covid hit the world, markets collapsed and there was tremendous uncertainty. Having money in the bank just sitting there knowing I could live 6 months before needing to dip into assets gave incredible emotional security.
It is important to pick a good bank for the emergency fund. Banks are rated on liquidity, asset quality, and debt load.
Banks in the united states are backed by the FDIC. This guarantees the depositors (you) that if the bank fails the depositors will not lose the money that has been deposited. Although FDIC was created in goodwill toward the citizens during the great depression, it basically stopped all accountability for banks to have the best interests of their clients. They were now at liberty to make very risky loans. If they became over leveraged and the bank went under, the Feds would just bail them out. In the past decade there have been hundreds of failed banks
This means that banks in the US are in general more risky than other countries, one can find banks that are more stable than the big banks. However, there is pretty low risk that your deposits may be forfeit. It may be that during a bank failure it could take some time before retrieving your funds. Therefore, it is important to have your emergency fund in either a well capitalized bank or diversified from banks that have independently invested interests.
By having a diversified liquid portfolio you can be prepared for both the small and large financial stressors.
https://www.fdic.gov/bank/historical/bank/
Slamas Llamas 