Your Own Financial Rescue Plan, Part 1: Adequate Cash Reserves

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Well, the big boys are getting their rescue/bailout plan, but I guess ours got lost in the mail… So what should we do? I think that everyone should take a second look at their cash reserves. Do you have enough?

What Job Security?
These days, I don’t see any job as safe. My company went from interviewing people to hiring… nobody. Even local and state governments are facing major budget deficits. At a minimum, I would want a few months of living expenses to tide me over until I find another job. I still remember the dot-com bust days when former tech workers ended up living in their cars.

A Reason Not To Invest In Stocks
Hey, if you’re looking for an excuse not to buy any more stocks for a while, beefing up your emergency fund is not a bad one. Any money you may need within 5 years should be in cash or short-term investments anyway.

A Reason *To* Invest In Stocks
Ironically, after you build up a nice cushion, it may actually make you feel better about investing in the stock market. I definitely helps me to keep short-term money separate from long-term money. As such, I’m still applying my upcoming income towards maxing out my 401(k) for 2008. But after that, I will probably start to save another three months of living expenses, for a total of 9 months in cash.

Less Credit Available
A lot of people used to simply assume that their home equity line of credit (HELoC) could serve as their emergency fund. But these days, it just takes one letter in the mail that says your HELOC is frozen or greatly reduced. You don’t want to be forced into taking an early withdrawal from your 401(k) or IRA, or paying exorbitant credit card interest.

If anything, apply for a credit card with a low fixed interest rate now while it is still offered. Here is a list of no fee 0% APR balance transfer credit cards. Just buy goods as you regularly would, and pay the minimum while saving the difference in an interest-bearing account. (Don’t go buying more stuff, obviously!)

Looking Ahead
For me, an alternative reason for increasing my cash reserves is that I can also use it later for investing in real estate. I still don’t see many opportunities with good cashflow right now, and may not see them for another couple of years. But I want to be ready, as the no-money-down days may never come back.

Where do you keep it?
As long as it is safe and liquid, I just go by rate. Use the new FDIC insurance estimator if you have lots of money. Both Vanguard and Fidelity are participating the money market fund insurance program, so they are super-duper safe now. . Well, your old money is safe. Still, I consider money market funds with Fidelity and Vanguard as safe as FDIC-insured, although this is only my opinion. However, my cash is currently split between:

  1. Series I US Savings Bonds – Bought in April with 1.2% fixed rate, now only 0% fixed rate available. Note that they are illiquid for the first 12 months. Rates adjust semi-annually. I earn 4.38% for 1st six months, 6.06% for 2nd six months. With recent inflation, my 3rd six months should also be pretty good. Exempt from state income tax as well.
  2. 12-Month 5% APY CD at WaMu/Chase – Sadly, no longer available.
  3. Low or no-minimum banks with high liquidity – A big chunk currently in transit to Everbank at 1.10% for first 6 months.
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  1. Jonathan,

    You said:
    “Both Vanguard and Fidelity are participating the money market fund insurance program, so they are super-duper safe now.”

    I disagree.

    Sure, they are safe in a nominal sense. You’ll get your dollars back. Problem is, if an event forces the insurance fund to actually pay claims, the money to pay those claims doesn’t exist. The shortfall in those new guarantee programs is in the trillions. Even greater worldwide. A guarantee is a guarantee, and short of the US defaulting, it will create the required money, devaluing the USD beyond anything seen in the western world to date. You’ll get your dollars back, but they’ll be worth less (or worthless if it’s a big event).

    Buying a small allocation of physical gold is probably a good idea. Gold is no one’s liability. Dilution to gold comes only through mining, which produces a relative pittance compared to current amounts.

    I use BullionVault to hold allocated gold (not paper ETF gold), and have been considering buying a few physical coins to hold at home.

    MM funds, even guananteed, are not an adequate hedge against systemic risk.

  2. As with the previous poster, I have a problem with this statement, but for a different reason. (I still keep my cash in a Fidelity money market fund)
    “Both Vanguard and Fidelity are participating the money market fund insurance program, so they are super-duper safe now.”
    “While the program protects the shares of all money market fund investors as of September 19, 2008…”

    In other words, they only guarantee what was in there on 9/19/08, not any new money. So if you had money in there on 9/19, it is insured, new money is not. (See example 4 below)
    “If an investor owned no shares in a fund as of close of business September 19, 2008, but owns 100 shares on the day the guarantee payment is made, none of the investor’s shares are guaranteed by the program and the investor will receive the net asset value directly from the fund.”

  3. ABC – I dunno. Gold is highly volatile, expensive to hold, and the buy/sell spreads can be high. Barring nuclear war, I would prefer many other investments to protect myself from inflation. I definitely wouldn’t keep my emergency fund in gold. The value might drop 10% in a week.

    Brian – Thanks for the correction. Sure sounds a bit backwards though. So, you want me to feel confident keeping my money there, but not so confident in adding to it? Shrug.

  4. “These days, I don’t see any job as safe.”
    Wrong-o. Uncle Sam won’t be cutting the military anytime soon…..

  5. I am putting more into stocks, I don’t think we have seen the end of this “crisis” but I do believe that we are going to come out of it – when we do, we are going to see a nice bull market. Past history from all the recessions show that most of them end up in a nice bull market… Time will tell I guess…

  6. On the HELOC – mine had no balance with 70k available – I took out the 70k put it in Fidelity last week. Bought 20k of stocks on Friday dumped them all at the open yesterday and made 5k in profit just like that. Now I have 75k in Fidelity that will sit making 2.5 or so interest for a few months. I like having that HELOC. The HELOC only charges 4% or so interest tax deductible so I’ll still be way ahead if I hold it in Fidelity for 6 months or so.

  7. rob, Well done but how did you know to do that? when to buy and when to sell….

    I had a large cash reserve at Emigrant and I am in a buying mood this week. I highly recommend building your cash reserve even at the expensive your retirement accounts. it keeps you from buying luxury items that we all probably buy but think we don’t. The cash reserve make my Wife and I feel a whole lot more comfortable than a new car or dining room set ever could.

  8. There was no knowing, he just got lucky.

  9. @ Jonathan:

    Yeah, the Treasury did it that way (only old money is insured) on purpose.

    See, what they wanted to prevent was a run on the money funds, with everybody yanking their money out of any fund that seemed a little iffy. Guaranteeing the existing deposits did that.

    But they really, really didn’t want to do insurance for money funds, because it creates moral hazard big time: Funds compete on yield and safety. If all funds are equally safe, they’d only be competing on yield, and that’s the last thing the Treasury wants to have happen.

    So the insurance scheme accomplishes their key goal, while introducing a minimum amount of moral hazard–if the fund wants more money, they still have to compete on safety.

  10. I’m definitely hoarding my cash right now, I just paid off a car loan and all the cash that was going to pay it off is now being directed to savings (FNBO is still at 3.5%). I’m continuing with my regular investments, 401k and $300/month into several funds, but I feel safer not directing the new cash into the market right now in case I need it for something else. My job should be safe at least to 2010 which is when this current project is supposed to be completed, hopefully by then we’ve turned a corner.

  11. I think a cash reserve is a prudent goal for any individual even if you’re not an investor. Saving money is important no matter who the individual is and unless you’re in a career where job security is almost guaranteed (few of those nowadays) then you have to protect yourself and those you care for by making sure that you have something available in an emergency.

    For myself I have a very modest amount since my career is very stable and I have a supplementary degree to fall back upon. But I still have something on reserve incase of expenses that could come up that I don’t anticipate

    Great article….has me thinking

  12. No knowing? Try – the market was plummetting, I had this equity line that I didn’t want them taking from me for no reason, so I transferred the funds on Monday. Come Friday I’m home at lunch and see the market just TANKING and this is a prime buying opportunity (the DOW is under 8k). What’s my risk? Minimal. So I buy some Deere, Brazil, and even a little GE and auto stocks. Now look this is only 20k of stock purchase so the risk is truly minimal anyway. Monday comes along and and stocks go to the moon. Nobody expected that. Anyway given the positive momentum going into the close on Monday I figure sell on the probable gap-up on Tuesday and get close to the highs for the day on all 4 buys. Call it luck. I call it skill with some luck and figuring there is little risk buying EWZ at 32 bucks. Heck even after today’s trashing of the MKT it’s not that low. Yes. But I’m sitting pretty in cash now having just bought myself all the time I need to keep this HELOC in Fidelity @ 2% or so. 5k (it was actually 7-8k now that I’ve looked back) in profit to start is a nice way pad it.

    Having a nice cash reserve also allows you to buy stocks you’ve researched and think are cheap and sell. No buy and hold. That’s a loser strategy.

  13. Don’t forget to use Rewards checking accounts. I have several of them with 25k each payiing 6% – 6.3%.

  14. 6%??? Where? I’ve got 4% so far…

  15. Arizona Bank & Trust, Charter Bank NM, Midwest America CU, West TX NB

  16. What about the Vanguard Treasury Money Market? It only invests in securities backed by the “full faith and credit” of the U.S. government. Would that be as safe or safer than an FDIC-insured bank?


  17. Thanks for today’s note — My Discover card, which I heard about from your post a year ago, was about to leap up in interest. I sold my house, paid off HELOC, mortgage, credit, but over $3,000. was still left on Discover — which goes up to something over 10% next month.
    I applied online for American Express Clear, transferred the Discover balance (at 4%), and it went through in under 60 seconds.
    Something that could have taken me days of research took five minutes! Now I just have to get that $3,000 paid off completely. (I didn’t, you see, reinvest — needed the credit to make my house beautiful for the sale.)

  18. To Rob:

    Borrowing 70K in home equity to go day-trading is a very, very risky strategy — the exact opposite of everything MyMoneyblog is all about.

    First of all, your bank could lower your credit limit on the HELOC tomorrow, and you’d be obligated to come up with that cash (beyond the credit limit) immediately. Borrowing the money does NOT protect you from credit limit reductions!

    Second, market timing has been proven to be a losing proposition, time and time again. With all your day-trading, you need to have significantly higher returns to match what a 20-yr buy-and-hold investor needs. This is due to commissions, days when your money is NOT invested, and the fact that you can’t predict the market with any accuracy.

    If you really want some perspective, google “terry savage” and go find a graph she frequently shows in presentations about what your long-term return in the market would be if you miss just the top 10 days in terms of gain in the market. You only need to miss a few good days to bring your overall returns down the the levels of savings accounts, or worse.

    No one can predict the market well enough to catch all of the top 10 best days in the last 50 years!

  19. Rob,

    I am probably going to get a lot of flack on this one from some people especially those that believe that you can leverage debt to build wealth. It seems to me all you effectively did is put yourself 70K in the hole, put your house at risk all for what? A couple of hundred dollars?

    Effectively the only way to gain wealth is to do what wealthy people are doing, and I will tell you right now 99% of the self made millionaires are not leveraging debt in order to try and chase a dollar.

    You can run the numbers all you want but in the real world it does not work because the numbers do not factor in HUMAN STUPIDITY

  20. Jason,

    He made profit shifting money around. If the balance in Fidelity drops close to $70k, he can pull it out and pay off the HELOC. There are a lot of lingering variables here and obviously some risk, but as long as he makes profit in the end, I wouldn’t be too concerned about it.

    Furthermore, rich people DO leverage debt to make money. The difference is they are not pushing money around to make $5k. They buy real estate, start businesses, etc. expecting a significant return on investment. This is in a completely different league than Rob’s little stunt here.

    At the end of the day he made $5k you didn’t. Everyone is comfortable with different levels of risk. In fact, this isn’t too much different than trading with a line of credit like many day traders do. In fact, interest is most likely less in this case for the time you lose your gamble.

    Your point is taken about risk though. To each his own. 🙂


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