How to inflation proof your emergency fund?

[DaveBB]

What is an effective way to protect one's savings from inflation?  I'm only interested in earning enough interest to match the inflation rate.  Here's what I've researched and found on my own. 

Traditional banks: My bank (Chase) has a horrible interest rate on both their savings accounts and money market accounts.  From more in-depth reading, most sources say that this is because traditional banks have a large overhead, and cannot really afford to pay higher interest rates.

Purely online banks:  Ally bank, Everest bank, and Mutual of Omaha all offer money market accounts with check writing ability.  The interest on these banks have hovered around 1% over the last year.  However, they have been has high as 4% in the not too distant past (2009 or so).  Low overhead gives them the ability to offer higher rates. 

High yield savings accounts:  Now these are FDIC insured, and usually require a sizable minimum deposit.  However, they appear to top out at around 1% interest.  Again, I've only found these with online banks.

Investment Firms (Charles Schwab, Edward Jones etc):  I've only given these a cursory look.  The interest rates were a bit lower than online institutes but still higher than brick and mortar banks.  About .6%. 

While money market accounts are not FDIC insured, from my research they are actually a very safe investment vehicle.  The SEC has designed them to be that way.  Basically one's money is just reinvested in short term bonds and CDs every 30 to 90 days, at a dollar per share.  As far as I can tell, since the advent on the money market account, no individual has lost his money.  A group of banks did set up a money market account just for use between themselves, and that has been the only one in history to have been dissolved at a loss.

I'm not entirely sure on what the difference between a money market account and a money market fund is.  Perhaps it is in name only.  I need to do more research on that. 

Anyhow, anyone who would like to weigh in on this matter would be appreciated.

[eagl]

There is no way to inflation-proof an emergency fund unless you believe any one of a number of goofy schemes that all have some level of risk, hidden or not.  By definition an emergency fund shouldn't be subject to risk of short term loss of value, so you can't use any vehicle that could get you more gains in exchange for risk.  Without risk there are no gains, generally.

For an emergency fund you pretty much use checking, savings, or money market account and don't expect any gains as an investment.  Yes you can shop around to find a bank that offers a half percent more than other banks, but that's not the point.  The point is to ensure that every dollar you put in there will be there if/when you need it.

To adjust your emergency fund for inflation you just need to analyze your emergency fund's buying power on occasion. If it falls short of your requirement (3-6 months of living expenses is a reasonable measure of how much you need) then you just add a bit more into it.

You can try to play games with your emergency fund but you will always add risk, which pretty much means you're treating it as an investment or play money, not an emergency fund. 

Park 3-6 months cash somewhere you can get at it within minutes, and add a bit every year to account for either inflation or changes in your living expenses.  The rest of your savings should go towards paying off all debt and then tax sheltered retirement and then regular investing, all based on how much risk you can accept over whatever timeframe.  If you've got a 2 yr old and want to save for his college, you've got 13-15 yrs to deal with that so you could go simple and put it into an S&P500 index fund because over 15 yrs it should gain, based on long-term history of the US financial markets.  If you need it in a few years, like building up savings for a new car you know you'll want or need in a few years, maybe try a balanced mutual fund that invests in both stocks and bonds and other stuff that reduces risk but still keeps gains up around maybe 5-7%.  That shouldn't lose value over a shorter 3-5 yr timeframe but will get you more than a savings account and likely beat inflation if its a decent balanced fund.

There's just no realistic non-gimmick way to get around the fact that to get gains any higher than bank interest rates, you need to put the money at risk.  That is NOT what you want to do for an emergency fund.

[eagl]

A money market account is generally your share in a money market fund.  The money market account's prospectus or paperwork should explain what that money is doing.  I have a money market account that is the transfer/holding account for my investment portfolio, and a few years ago it changed from one money market fund to another.  The deal with a money market account is that they are often set up to be used like a checking account, complete with checks and a debit/atm card.  You can usually make some number of transfers in or out without any fees, but in my experience they don't usually allow unlimited transactions like a checking account would.  I think I get 10 transfers/month free that have nothing to do with investment, and any investment transactions (using the money market account to fund a stock or mutual fund purchase through the same brokerage account) are subject only to the usual brokerage transaction fee and don't count against the 10.

If you invest directly in a money market fund, I'd expect that you would have to pay transaction fees any time you buy or sell shares of that fund.  A money market account lets you move money in and out of the brokerage firm's preferred money market fund (within the transaction limits) without any fees.

I know some people who don't have a regular checking or savings account.  They just use a money market account from schwab as part of their overall situation with a brokerage account, because schwab offers a lot of account features once you meet a minimum balance and investment amount.  I think most investing and brokerage firms offer a similar "free" money market account but the features (like atm/debit card and checks and electronic transfers) will vary depending on what company you invest with and how much you are investing with them.

[zack1234]

 

Inflation

 

[DaveBB]

Wow, great reply Eagl.  Thank you for typing that out.  So for a measly 1% interest, it's really not even worth it to transfer my savings account to a money market account.  Plus keeping it in my bank keeps it FDIC insured. 

So why is there all the hype about money market accounts?

[eagl]

Inflation

 

Its a useful concept to explain, without delving into conspiracy theories or hardcore economic theory, why the purchasing power of a single unit of currency decreases over time.  Maybe you're so rich you don't need to care about such details?  Or you're so cynical that you're content with being poor or broke for your entire life, embracing mediocrity just to prove you're not playing the man's game?

Or is that too complicated, and you really just wanted to crap in a thread where someone asked a serious question and got a real answer?

[Wolfala]

 This might not be the answer you're looking for but what you really need is someone to help you through to create investment goals and not just simply to have cash stashed away.  Cash in of itself is absolutely worthless and having it stuffed under your mattress is one step below normal checking account with 0 interest.

The most turnkey solution for you is to make an appointment over at a Charles Schwab branch.  For you to have access to the cash the easiest way for that is probably going to be a new load index fund which mirrors the Standard & Poor's 500. That cash whatever the games are on quarterly basis is reinvested.  That cash whatever the games are on quarterly basis is reinvested

 But in so far as long term planning you need to be looking at Roth IRAs and really learn about compound interest going forward.  That is cash which you're not gonna touch for 30 years and you never want to touch it.

 Once you have your investment goals laid out you have a quarterly meeting with the investment officer and rebalance the portfolio as needed based on what your risk tolerance is i.e. if you are an aggressive investor or if you need stuff which is more safe.

[zack1234]

Get a mortgage and hope for high inflation

The majority of people in the West in 30 year time wont have a pot to piss in so inflation will be meaningless

I spend all my money because the City of London stole my last pension, now the government wants to force another one on me, giving their chums in the city my coin to invest in dog turd countries.

Stop being greedy eagl is crass

[eagl]

Wow, great reply Eagl.  Thank you for typing that out.  So for a measly 1% interest, it's really not even worth it to transfer my savings account to a money market account.  Plus keeping it in my bank keeps it FDIC insured. 

So why is there all the hype about money market accounts?

1% is better than nothing, so it might be worth it as being more than zero.  Back when online banking was new, I moved my entire emergency fund over to ing direct because they were offering somewhere around 3% for a savings account containing over their $25,000 threshold, when my primary bank was offering around 1.5%.  When the economy tubed, ing direct took a massive hit and ended up pretty much dissolving their online bank so I moved that money back to my normal bank.

Money market accounts will typically offer a bit better than a savings account and the rate can change continuously, compared to a bank that may adjust its interest rates only quarterly or annually.  You're right they're generally just about as safe as a regular bank account, but you have to be careful to look at the accessibility and fees and stuff like that.  If you get whacked $10 for every transaction then that will probably wipe out any advantage on interest rates, for example.  On the other hand, if you have a money market account that is part of a larger investment brokerage account portfolio, then it may be a safe place to park some money.

I personally have my emergency fund in a fairly low performing savings account because I'm not going to spend a lot of time or effort chasing 0.25% right now.  Its in my main bank and I can transfer money in and out electronically a few times per month for free, so it meets my needs.  My advice would be to find a convenient account that makes a competitive interest rate and don't destroy the accessibility of your emergency fund or place it at risk just to get an extra quarter or half percent interest rate.  Maybe when interest rates rise (eventually they will), it might be worth some time to shop around for a better rate.  But right now banks aren't really competing for business on the basis of savings interest rates because there's no wiggle room when the fed is offering essentially free loans to large borrowers.  That will change eventually but for now you might want to go towards "more than zero" on the rate, and focus on account features and convenience and a respectable financial institution you don't think will go bankrupt anytime soon.

Schwab is pretty full featured...  You can start small and add accounts and features as you add to your portfolio and it can be pretty much a one stop shop.  If they don't offer a truly free checking account though (I don't know what their current baseline banking services are), you ought to be able to find that at any number of banks.

[ghi]

I remember reading this few weeks ago....
"Approximately 62% of Americans have less than $1,000 in their savings accounts..."
http://www.marketwatch.com/story/most-americans-have-less-than-1000-in-savings-2015-10-06

and this week in USA today;
I read this story after Obama suspended debt limit Monday , and.... I believe something is wrong,  absolutely wrong going on, I don't know what... just my feelings; I would not trust gold, cash and paper, it's not value. I would buy few acres of farmland, sustains life , people need food even if the system collapses;

"WASHINGTON — The U.S. national debt shot up $339.1 billion Tuesday — the largest daily increase in the national debt in history, according to Treasury Department data....
"

http://www.usatoday.com/story/news/politics/2015/11/04/national-debt-sets-one-day-record-after-debt-limit-suspension-becomes-law/75173708/
..this means 1000$ from the poket of every American;
ok, apologize i'll shut up, none of my business; ... but doesn't make sense, something is very wrong, this domino wont last long;

[eagl]

Wolfala,

My car needed a brake job and cash was pretty useful for that, so I wouldn't call a cash emergency fund "worthless".  It's pretty darn useful when you actually need cash right away.

You're right about needing to come up with a big picture financial approach that meets all of your short and long term needs, but I would strongly argue that before you put a dime into long term investing you need a cash-equivalent emergency fund to pay for life's little surprises (like a new radiator, home plumbing emergency, etc).  Once the emergency fund is full then by all means look at a broad investment portfolio with stated and measurable objectives based on sound non-gimmicky financial advice.  But the place to start is with an emergency fund so you're not stuck putting what ought to be easily solvable emergencies onto credit cards, or having to cash out retirement investments (taking penalties in the process) to pay for things that should be covered by a cash or cash equivalent emergency fund.    I would absolutely NOT put my emergency fund into a stock fund, because overnight you could lose a huge percent of that money if you can't wait out market fluctuations.  Emergency cash needs to have an absolutely stable value and be immediately accessible.  S&P 500 funds don't come close to meeting any of those requirements.

Money in a mattress isn't safe, but when you need money NOW there are few reasonable substitutes for having cash in a checking or savings account.  That's pretty darn useful IMHO.  The rest of what you mentioned, going with a balanced portfolio assisted with advice and accounts from Schwab, is awesome for everything in addition to or beyond the emergency fund. 

You could have an emergency fund in a schwab money market account because schwab has those accounts that can be treated sort of like a checking account, but again you have to look at fees and accessibility.  For an emergency fund, you're not likely to find anything with fewer fees and greater accessibility than a traditional savings or checking account with a checkbook and ATM/debit card.  You can do that with schwab but there are usually either fees or a big minimum balance associated with those kinds of account features.

[NatCigg]

looking back to 2007 cash was king, nobody had it.  so long as the banks do not ice up,  CD's or short term deposits could make you some money. buying property should always grow value, minus 2007 when nobody had money to buy a house so values dropped over night, with stock value,  a lot of money out there, hope "they" dont take the cream off the top again soon.    blindly dumping money into a pyramid scheme cant go wrong can it?  in growth we trust.   

[eagl]

ghi I think you're correct that "something isn't right", but for the vast majority of us the most useful approach is to simply follow common-sense rules.

Have an emergency fund.
Don't have any debt except maybe a mortgage, and pay that off as quickly as possible.
Have a budget so you know EXACTLY where your money goes and so you can pay cash for everything.
As part of your budget, put 15% of your income into retirement, preferably ones with tax benefits like roth IRAs, taking max advantage of company matching contributions if offered.
Fund out of your budget, in advance, any big expenses you expect to have, and then pay cash.  Like cars, kids college, down payment on a house, luxuries like a boat, etc.
Carry level fixed rate term life insurance for 10x your salary, as long as there are people depending on your salary.  Insurance isn't an investment and it isn't for YOU, its for the people you leave behind and they don't need an investment they need a payout to replace your lost income.

Follow these simple guidelines and even low-income families can have a HUGE amount of money to retire on or pass to their kids as an inheritance.  Instead, people get caught up in the moment and buy luxuries on credit, prioritize their cable tv over retirement investments, and point at big picture things that simply don't apply as an excuse why they refuse to save or live within their means.  I'm sorry, 17 trillion bucks in national debt has absolutely nothing to do with my decision to buy or not buy a widescreen tv.  Justifying buying luxuries or not saving on the federal debt is self deception, using that to justify irresponsible personal behavior.  Sorry, if you have a new car loan and a new tv, you have no reason to complain about the federal debt. Instead of blaming the govt stupidity for my own financial decisions, I have 2 6-yr-old cars that were bought with cash and they won't be replaced until I can pay cash.  If they die and I need a replacement before I can afford a nice new car, then I'll buy an ok used car instead of following the irresponsible example set by both our government and by other citizens, neighbors and friends, who have become accustomed to spending more than they make while blaming their finances on everyone else.

If the economy crashes, are you going to be better off with or without debts owed to others?  When things get tough you can bet those debts will be called in because the lenders will be desperate.  Far better off to survive any coming crash if you don't owe anything to anyone, even if your investments lose value in the crash.  Having half of your investment value and no debt is a far better situation than having half of zero savings while retaining all the debt...

On insurance...  Remember this - When you invest and expect a return on investment higher than a savings account interest rate, you MUST accept some risk.  That's how it works, nobody pays you back if you don't risk your money.  The purpose of insurance is the exact opposite, to spend a little money transferring risk to someone else.  So why would you buy an insurance policy as an investment (whole life for example), when we KNOW that you don't get any real return unless you're the one accepting the risk?  Expecting great results from a whole life policy is like pouring half a cup of water into another cup and expecting it to magically increase just because you moved it to another cup.  Its far better to pay a mere fraction of the insurance premium for level term insurance to transfer risk to the insurance company *only while you have dependents who need your income*, and use the rest of your investment money in a real investment that will get you a better return in exchange for the risk you are accepting for those investments.

 

[Brooke]

Inflation is based on the increase in cost of a reference basket of goods and services.  However, the government from time to time takes expensive items out of the basket and replaces them with cheaper items.  For that reason, there are people who believe that the official CPI significantly under-represents inflation.

If you instead use the same basket of goods as in 1990, you get this:


If you instead use the same basket of goods as in 1980, you get this:


So, inflation based on CPI is low.  Inflation based on a 1990 basket or 1980 basket is not.

[Brooke]

Any time inflation is higher than savings interest rate, savers are getting their savings slowly taken away.

One of the main reasons for the Fed putting interest rates low is to encourage savers not to save and to spend the money instead or to put it elsewhere.

Like Ghi, I, too, feel something isn't right these days.

What isn't right?
Interest rates at zero for seven years.
Some parts of the world with negative interest rates (which not long ago would have been thought impossible).
Stock market Shiller PE at extremely high levels.
Historically gargantuan debt in nearly every country.
Commodities meltdown.
China's bubble bursting.
Greek meltdown.
Puerto Rico default.
A growing mess in Ukraine and Syria.
A growing illegal immigration fubar in Europe.
Average price of 1-bedroom apartments in Silicon Valley being $3000/month, and shacks selling for $2 million.
Governments believing the best way to deal with debt-induced catastrophes is to go twice as far into debt.

It's hard for me to predict what will happen.  My best guess is a cataclysm larger than 2008, with a large stock-market crash, followed by Fed flood gates opening wide to try to reinflate again, and eventually a debt implosion.  But it is only a guess.