A rainy day fund helps investors weather all types of emergencies – from unexpected job loss to a hurricane.
Investors who doubt the wisdom of establishing a rainy day fund need only look at the devastation wreaked by Hurricane Sandy. A rainy day fund might not address the emotional losses caused by storm, but a large supply of emergency cash can help homeowners survive Sandy’s financial fallout.
A rainy day fund –or emergency fund – can help investors weather any unexpected event, be it sudden job loss, large investment loss, medical emergency or, in the case of Sandy, a natural disaster. Yet, the importance of saving for a rainy day seems largely lost on Americans, who’ve never been notable savers, even in the best financial times.
Declining wealth and reduced income have made it difficult for many households to save during the prolonged economic downturn, while record low-interest rates are discouraging to investors who keep large sums of money in savings accounts. It may be difficult and discouraging to save in the current economic environment, but financial professionals say investors can’t really afford to go without a rainy day fund.
“Most of the people I see in financial trouble haven’t wildly spent themselves into debt by staying at the Ritz or driving a Rolls,” Danielle L. Schultz, a certified financial planning blogged on the National Association of Personal Financial Advisors website. “Rather, they’ve had some unforeseen disaster for which they had no backstop. Don’t go there.”
Unfortunately, many Americans already are there. One-fourth has racked up more credit card debt than they’ve saved for emergencies, according to the Bankrate.com Financial Security Index for February. The National Association of Personal Financial Advisors reports that nearly 40 percent of U.S. adults have zero non-retirement savings.
How much should I set aside?
Investors are commonly advised to set aside a rainy day fund big enough to cover three to six months of basic living expenses, though some advisors feel the current economic environment warrants nine months to one year of emergency cash, according to Bankrate contributor Michele Lerner. The amount needed depends on a number of variables, including the number of dependent children and sources of household income, such as Social Security payments and one vs. two salaries.
How can I achieve my savings goal?
“Accumulating a significant rainy day fund will be no short-term feat for most, but every little bit counts,” reports NerdWallet contributor John Gower, who recommends setting aside a reasonable amount from every paycheck. Automatic transfers from checking to savings accounts make it easier for some households to save.
Where should I keep my rainy day fund?
In an emergency, investors need quick access to their rainy day funds and typically maintain the reserves in highly liquid cash accounts. Traditional savings and money market accounts are easily accessible, though yield meager rates in the current environment. Investors seeking slightly higher yields may employ less liquid strategies, such as ladder of Certificates of Deposit, but they face the risk of early withdrawal penalties if an emergency forces them to tap their rainy day fund.