Goldilocks’ Guide To Building An Emergency Fund: What is “Just Right?”
Finding the perfect balance for your emergency fund can be like finding the elusive "Goldilocks zone" – not too much, not too little, but just right. It involves understanding your financial situation and empowering yourself with the knowledge to recognize the advantages of allocating surplus funds wisely. By finding your financial sweet spot, you can enjoy the peace of mind that comes with knowing you're prepared for the unexpected while optimizing your resources for future growth.
My Emergency Fund Savings Recommendations:
If you have a stable, corporate job: 3-6 months’ worth of expense
If you are a business owner: 6-12 months’ worth of expenses
Anything over a year is probably excessive. However, when deciding between 3 and 12 months, it becomes more of a question of, how much do you need to have in cash to sleep at night? What are you comfortable with? Emotion plays a huge role so I aim to meet individuals at their current state while also providing education and empowerment to guide their decisions.
Anna has a very stable job at university where she has worked for 12 years. However, she is risk-averse and feels things can constantly go wrong. She is much happier when she has 12 months of expenses saved up at all times.
Is she missing out on some opportunities? Probably. However, the amount she is missing out on in terms of return is minimal compared to the cost of her peace of mind.
Convincing Anna that she didn’t need 3 years worth of savings was a challenge. Much of the conversation comes down to hopes, dreams, and creating buckets.
How I convinced Anna:
Let’s Talk Inflation:
We discuss the cost of food and how eggs used to cost under $2. Now we are pushing $3-5. Although inflation has been particularly high in the past few years, it is a normal part of our economy that isn’t going to disappear. If your cash isn’t in a place where it’s growing over time (at least to keep up with inflation) then you are losing the value of your money.
For example, you have $10,000 and you put it under your mattress for 10 years. Let us assume that inflation averaged 2.25% (the average rate for the last 30 years) for that 10 years. When you pull your dusty money out from under that mattress, you still have $10,000. But the value of your money is only around $8,000. You won’t be able to buy as much with it as you could before.
Let’s Talk Risk:
On the flip side of that is the risk of losing your money if it’s invested in the market. That is a risk more women are familiar with and worried about. So, I acknowledge that fear with the client and we talk a little about how over the last 10 years, the S&P (which is another thing I talk about A LOT – education on what the “market” actually is) has been up 10%. That’s even adjusted for inflation. Yes, it goes up and down, but in the long term, it is always growing.
If you invest $10,000 today, and the market averages 10% for the next 10 years, you will have $25,937 after 10 years. That’s without putting any more money in!
Once it has been established that she has too much money in her emergency savings account, the conversation then turns to buckets. I talk to each client about the idea of all extra cash going into buckets corresponding to the timeline that you need the money and accessibility. Then we can decide which bucket money is going into, and where the bucket should be kept or invested.
I bet you want to know more about my bucket method…stay tuned for my next blog!