Here’s how an emergency fund can help safeguard your investments. Don’t get us wrong! Your investments are perfectly fine, there’s no need to panic. However, it’s better to be safe than sorry!
“An emergency fund for my investments? Why on earth would I need something like that?!” you wonder. Well, you don’t have to wonder for long because we’re going to tell you. But first things first.
What is an emergency fund?
As the name suggests, it’s for emergencies. Just like you have Health Insurance for sickness and Life Insurance to safeguard your dependents, an emergency fund is backup for a rainy day. But how does this affect your investments? Let’s look at an example. Let’s assume you get laid off from work or have to go on extended leave due to an injury. Because of this, your primary source of income is cut off. What do you do now? This is when you turn to your emergency fund. The best part? You don’t have to dip into your savings or liquidate your investments, especially if you are going to be strapped for funds only for a short while. The purpose of an emergency fund is to tide you over until better days without you having to resort to taking loans or breaking your investments.
So, how big should the emergency fund be?
It’s safe to have an equivalent of 6 months of your salary in your emergency fund corpus.
Now, let’s look at the correlation between an emergency fund and investments!
The biggest threat to investments and savings is the lack of an emergency fund if you’re going through a rough patch.
Let’s assume you are in immediate need of cash and the only way to get some liquidity is by breaking your investments. But you don’t want to do that. So, you borrow from friends or opt for a Personal Loan. Your friends might not be able to help you with the full amount and Personal Loan interest rates are high. You have no choice but to break those FDs and withdraw from your Mutual Fund investments. Moreover, with FDs, there’s a breaking charge and let’s not even discuss the interest you would have otherwise earned on these investments. Now you will have to work to replenish your investments and also return the borrowed money.
All this could have been avoided had you maintained an emergency fund to meet your obligations.
How do I manage my Emergency Fund?
You can always choose to stash it away in a savings account and let it grow at a snail’s pace. Or you can invest a part of it in short-term investment options that can be liquidated easily. You could choose from liquid Mutual Funds, Fixed Deposits, treasury bills to name a few. All these options have short maturity periods. Don’t lock your emergency corpus in long-term investments. It’s about maintaining your liquidity.
Is there a crash course in building an Emergency Fund?
Start early! Decide on a certain amount and funnel it into your emergency fund every month. You might have to cut some of your discretionary spending to this end. But isn’t it all worth the effort?
As we mentioned earlier, it’s wise to start your emergency fund at a young age. As you grow older, your financial responsibilities will increase, and kick-starting an emergency fund will only get more difficult. So, don’t delay and start early.