I'm hashing out some ideas, let's hear what you think.
I love the idea of naming your money, but I don't think that doing so is worth the inefficiency it creates. I'm thinking to build a system where we cut the inefficiency out of our finances as much as possible.
I talk about the Emergency Fund a lot, because the concept bothers me. I recently started thinking more about this and drifting into alternative strategies. In my research I found that Betterment proposes a Stock/Bond EF. They think that it will likely survive, and I am inclined to agree with them. Wealthfront's Rachleff raised a solid point in his post here with the comment:
For me, the irony of it all is that a cash based EF is 'at odds' with the growth of investable assets. If you must first load up in cash, it will take you that much longer to build your investable assets.
What is the right path to take?
Let's say I meet a person with $50K in savings but no emergency fund - what does that mean? Could it mean that they are fully invested in stocks? Let's imagine that their EF 'number' is 4x months of expense aka $8000. Would $50k fully invested in stocks mean that they don't have that? The worst performing period we've recently faced was a 57% drop in value. If that happened it would be awful, the $50K would drop to $21,500.
Let's pretend that this person with no EF also needs $8000 at exactly that time due to being fired or whatnot. What would they do? If they sold then it is likely that they would be 'doing the worst thing' (buying high, selling low)...
But they would also be capturing a capital loss which could be carried forward against regular income (Tax Loss Harvesting) and they'd still have their $8K covered.
Where's the risk case?
The risk has to be the person that doesn't have $50K. What if they have only $4K in savings? If they put that in the market and everything went wrong, they'd be underfunded. Again, if it was 100% stocks then they would be down to just $1720. Perhaps they would be screwed. Their goal of saving up to the $8K would be thwarted.
But who is this person? If they haven't got $8000 then I'd have to think they are one or all of the following:
Someone comes to me with $20K in student debt and $4000 in checking. What's he got? A $4k EF? Perhaps... these names... they confuse me. I kinda think he has a negative net worth of $16K and needs to stop paying interest on $20k.... Should the advice be to load up another $4K first and foremost, keep it all in cash? Or should the advice be to run EF free? And throw everything at that debt? Perhaps it would be smarter still to invest in the market?
Let's go more real world -your student loan ridden grad loses their job and has nothing 'spare' in the bank because they put all their money into paying down their debt. They don't have an EF in place so therefore they cannot make loan payments - what happens?
There's a real risk that if they can't find a way to restructure things they may face a fee or penalty. But if they aren't paying down their debt as fast as possible, for every dollar in a cash (or stock) EF is incurring a fee or penalty in that it isn't being used to eliminate interest payments.
The more I think about Emergency Funds, the more I think that the name is creating inefficiency. Some people like this, but we must accept and embrace the costs if we do.
Last up, I wonder about this scenario:
Family of 4, SAHM. Mortgage of $200K. What happens if Pop loses his job? Should they have stocks at all, or cash? Should the debt payment be the full focus? If that happens and there is no money for mortgage payments there is a lien risk against the property and it could be lost, which has both financial (loss of equity) and emotional concerns. Clearly, an all cash buffer is the safest solution. But what would a HELOC create? Could you determine that a $20K EF worked, and on the day that Dad thought he was going to get fired they called on it, instantly creating a debt, but avoiding one until that moment. Couple that with life insurance and we might find an interesting solution.
I've mentioned previously that I like to write to think. In this post I feel that we should consider a range of risk related solutions to wealth generation. The riskiest of them may include breaking with the traditional approach. However, I feel that this might be most appealing to the lazy. They may think of it as a way to maintain improper spending habits and a crutch for proper planning. People who want to go to the extremes are going to need to be extremely sophisticated and disciplined as they are running the highest risk of failure.
I love the idea of naming your money, but I don't think that doing so is worth the inefficiency it creates. I'm thinking to build a system where we cut the inefficiency out of our finances as much as possible.
I talk about the Emergency Fund a lot, because the concept bothers me. I recently started thinking more about this and drifting into alternative strategies. In my research I found that Betterment proposes a Stock/Bond EF. They think that it will likely survive, and I am inclined to agree with them. Wealthfront's Rachleff raised a solid point in his post here with the comment:
Investable assets above a certain level eliminate the need for an emergency fund.
For me, the irony of it all is that a cash based EF is 'at odds' with the growth of investable assets. If you must first load up in cash, it will take you that much longer to build your investable assets.
What is the right path to take?
Let's say I meet a person with $50K in savings but no emergency fund - what does that mean? Could it mean that they are fully invested in stocks? Let's imagine that their EF 'number' is 4x months of expense aka $8000. Would $50k fully invested in stocks mean that they don't have that? The worst performing period we've recently faced was a 57% drop in value. If that happened it would be awful, the $50K would drop to $21,500.
Let's pretend that this person with no EF also needs $8000 at exactly that time due to being fired or whatnot. What would they do? If they sold then it is likely that they would be 'doing the worst thing' (buying high, selling low)...
But they would also be capturing a capital loss which could be carried forward against regular income (Tax Loss Harvesting) and they'd still have their $8K covered.
Where's the risk case?
The risk has to be the person that doesn't have $50K. What if they have only $4K in savings? If they put that in the market and everything went wrong, they'd be underfunded. Again, if it was 100% stocks then they would be down to just $1720. Perhaps they would be screwed. Their goal of saving up to the $8K would be thwarted.
But who is this person? If they haven't got $8000 then I'd have to think they are one or all of the following:
- Spending too much
- Debt ridden
Someone comes to me with $20K in student debt and $4000 in checking. What's he got? A $4k EF? Perhaps... these names... they confuse me. I kinda think he has a negative net worth of $16K and needs to stop paying interest on $20k.... Should the advice be to load up another $4K first and foremost, keep it all in cash? Or should the advice be to run EF free? And throw everything at that debt? Perhaps it would be smarter still to invest in the market?
Let's go more real world -your student loan ridden grad loses their job and has nothing 'spare' in the bank because they put all their money into paying down their debt. They don't have an EF in place so therefore they cannot make loan payments - what happens?
There's a real risk that if they can't find a way to restructure things they may face a fee or penalty. But if they aren't paying down their debt as fast as possible, for every dollar in a cash (or stock) EF is incurring a fee or penalty in that it isn't being used to eliminate interest payments.
The more I think about Emergency Funds, the more I think that the name is creating inefficiency. Some people like this, but we must accept and embrace the costs if we do.
Last up, I wonder about this scenario:
Family of 4, SAHM. Mortgage of $200K. What happens if Pop loses his job? Should they have stocks at all, or cash? Should the debt payment be the full focus? If that happens and there is no money for mortgage payments there is a lien risk against the property and it could be lost, which has both financial (loss of equity) and emotional concerns. Clearly, an all cash buffer is the safest solution. But what would a HELOC create? Could you determine that a $20K EF worked, and on the day that Dad thought he was going to get fired they called on it, instantly creating a debt, but avoiding one until that moment. Couple that with life insurance and we might find an interesting solution.
I've mentioned previously that I like to write to think. In this post I feel that we should consider a range of risk related solutions to wealth generation. The riskiest of them may include breaking with the traditional approach. However, I feel that this might be most appealing to the lazy. They may think of it as a way to maintain improper spending habits and a crutch for proper planning. People who want to go to the extremes are going to need to be extremely sophisticated and disciplined as they are running the highest risk of failure.
