Emergency cash fund musings

GazzaBloom

I have held a cash emergency fund for some time, having been a follower of Dave Ramsey's baby steps as I got out of debt and cleared the mortgage but have been musing lately on an alternative strategy to cover emergencies.

I hold £10K cash in an instant access Cash ISA and we have dipped into it for emergencies over the last 2 years for car issues and vets bills but always topped it back up afterwards.

I have just run the calcs on what £10K could possibly accumulate to over 20 years if put in a stocks and shares ISA and invested in a low cost index fund vs the low interest gains held in a cash ISA, I haven't really considered how bad the cash drag was before.

I am musing on taking out a credit card (I have none at present) and running some regular spend through it such as the weekly shopping and diligently paying it off every month so a £10K credit limit could hopefully be granted in time and then using the credit card credit limit as the emergency fund

This would appear be financially advantageous assuming discipline is maintained and that any use of it to cover an emergency is paid down as soon as possible, just as you would top back up the cash emergency fund.

Anyone using this alternative emergency fund strategy?

tacpot12

I use the idea of saving 'pots' for certain categories of regular and emergency expenses. e.g. I have "Car", "House" and "Vet" pots. I save a regular amount each month into each of these. The amount I save is decided based on what I know and what I can reasonably expect.

For example, in the Car pot, I save for Road Tax, Car Insurance, Breakdown Insurance, Maintenance and Car Replacement. I know what the road tax will be and can estimate the cost of car & Breakdown insurance with some accuracy. I also decide how much I can afford to save to replace my current car (and also how much I want to haveto spend on a new car). I'm less certain about maintenance, so I estimate this with more leeway. 

In the "House" pot I save for annual Home Insurance, Appliance Replacement and Home Repairs, e.g. window/roof replacements - sadly both of which will be needed in 10-15 years.

With these savings pots in place, I don't really need an emergency fund as such as nothing happens that I haven't provided for. (I have critical illneess, and car and buildings insurance, and take out travel insurance when I travel, so that I should not be hit with any massive bills). 

I hold these savings pots as cash, and I also have a cash 'buffer' in my SIPP of about £10,000. I'm retired and live on the income that my SIPP investments produce by way of dividends. I use a credit card (and have about £25K in credit on 4 cards), but use them sparingly and pay off the card with cash within the month. Most often I uses the credit card for large purchases, in part to get the Section 75 protection, but also because one of them gives me cashback, so I tend to use this one in preference to the others, but they all get used to some degree to keep the providers happy.  

As a result, on the above, I'm sitting on an average cash balance of around £18,000. 

I agree that the drag of this cash on my net worth is substantial, but I don't feel comfortable holding less cash. I would be better off for sure, but I would worry more about problems. I have a comfortable life, and don't need the extra income that investing some of my cash would ultimately produce.  

Rich1976

The idea of an emergency fund is that it is there in an emergency. Investments are for the long term and need to be kept separate to an emergency fund.

yes the returns on keeping the money in a savings account is potentially lower in the longer term but it is not there to provide growth.

Can you say with any degree of certainty that all types of emergencies which can arise can be paid for on a credit card?

if you lost your job could you pay your household bills on a credit card? I think not
if your boiler needed replacing, does your plumber allow payments by credit card?

your answer would probably be in extreme circumstances like the above you would withdraw from your investments but what if the market had crashed at the time you need the money? if an index fund has dropped say 40% or more would you still be left with enough to cover said emergency?

Also how are you saving for future expenses like a replacement car, annual expenses, home improvements?

         

GazzaBloom

Rich1976 said:

The idea of an emergency fund is that it is there in an emergency. Investments are for the long term and need to be kept separate to an emergency fund.

yes the returns on keeping the money in a savings account is potentially lower in the longer term but it is not there to provide growth.

Can you say with any degree of certainty that all types of emergencies which can arise can be paid for on a credit card?

if you lost your job could you pay your household bills on a credit card? I think not
if your boiler needed replacing, does your plumber allow payments by credit card?

your answer would probably be in extreme circumstances like the above you would withdraw from your investments but what if the market had crashed at the time you need the money? if an index fund has dropped say 40% or more would you still be left with enough to cover said emergency?

Also how are you saving for future expenses like a replacement car, annual expenses, home improvements?

         

Good points, well made.

In the bigger picture £10K cash drag is not a lot compared to the value of pensions we have invested.

As for losing my job, I have the insurance of a generous 20 years service redundancy package which would probably see me through to pension drawdown.

I hate credit cards anyway and there is a certain peace of mind that comes with having a bit of cash around.

Albermarle

In the bigger picture £10K cash drag is not a lot compared to the value of pensions we have invested.

 there is a certain peace of mind that comes with having a bit of cash around.

Both statements are spot on. When looking at your personal financial situation, it is not just always about trying to squeeze the last drop from your funds. Having some cash can help reduce any anxiety about market turbulence, and sometimes it even performs better than investments ( like in 2022) .
So personally I would leave terms like cash drag to Financial Directors etc . It's your money , you should do with it what makes you feel comfortable ( within certain sensible boundaries of course)

Prism

GazzaBloom said:

As for losing my job, I have the insurance of a generous 20 years service redundancy package which would probably see me through to pension drawdown.

It all depends on the company of course but in the worse case scenario, such as the company goes bust, there is no redundancy package. 

I tend to try and keep around 2 years of spending available in either cash or fixed savers - I went through much of it during the lockdowns but trying to build it back up

bostonerimus

This is a question about risk vs return and asset allocation. The answer is in the title "Emergency cash fund musings". An emergency cash fund should be in easily accessible cash so that it can be drawn upon immediately. Don't try to make money do two conflicting things at the same time.

jimjames

GazzaBloom said:

I have held a cash emergency fund for some time, having been a follower of Dave Ramsey's baby steps as I got out of debt and cleared the mortgage but have been musing lately on an alternative strategy to cover emergencies.

Anyone using this alternative emergency fund strategy?

It's a strategy I used when I was younger but is high risk. I didn't run with zero cash savings balance but it was much, much lower and the vast majority of my assets were in S&S ISAs. If you have a secure job and access to decent credit as well as cash left over at the end of the month and partner working then it's an option. If you spend everything you earn then I certainly wouldn't recommend it.

Maybe the question should be about the level of emergency cash fund rather than not having any at all. 

GazzaBloom

bostonerimus said:

This is a question about risk vs return and asset allocation. The answer is in the title "Emergency cash fund musings". An emergency cash fund should be in easily accessible cash so that it can be drawn upon immediately. Don't try to make money do two conflicting things at the same time.

I don't necessarily agree with your reading of this. I would say the hypothesis is more a question of whether cash is the most financially effective way to cover emergency spend needs and provide the desired level of security that is required, versus whether short term leveraging can achieve the same, and if it can, does that allow the retained cash to be put to more effective use, ie, invested. It could just as easily be used for a capital purchase if decided it it is not required.

I am not seeing myself dashing online to throw my emergency cash into an S&S ISA anytime soon, there is something far more emotionally reassuring about seeing a credit balance on a cash account vs a credit limit on a credit card. Personally, I'm not sure I can get past my anathema for credit cards, loans or debt of any kind. 

Your point about the amount is interesting, an arbitrary 3-6 months of expenses is often recited but may not be enough for some and too much for others.

bostonerimus

GazzaBloom said:

bostonerimus said:

This is a question about risk vs return and asset allocation. The answer is in the title "Emergency cash fund musings". An emergency cash fund should be in easily accessible cash so that it can be drawn upon immediately. Don't try to make money do two conflicting things at the same time.

I don't necessarily agree with your reading of this. I would say the hypothesis is more a question of whether cash is the most financially effective way to cover emergency spend needs and provide the desired level of security that is required, versus whether short term leveraging can achieve the same, and if it can, does that allow the retained cash to be put to more effective use, ie, invested. It could just as easily be used for a capital purchase if decided it it is not required.

I am not seeing myself dashing online to throw my emergency cash into an S&S ISA anytime soon, there is something far more emotionally reassuring about seeing a credit balance on a cash account vs a credit limit on a credit card. Personally, I'm not sure I can get past my anathema for credit cards, loans or debt of any kind. 

Your point about the amount is interesting, an arbitrary 3-6 months of expenses is often recited but may not be enough for some and too much for others.

If you want to put your emergency fund in a short term bond fund or an equity fund, then it's not cash. Cash has the advantages of immediate access ie from the Cashpoint and it is also not going to be volatile. How much cash you keep in the bank and for what purpose is going to be a personal decision and many people see short term bonds as cash-like, but an emergency fund that uses anything other than cash is not an "emergency cash fund" and will have different attributes. Cash can do a useful job which might be more psychological than anything else, but I wouldn't down play the usefulness of that. Trying to squeeze every penny of gain out of your money can lead you to take on too much risk and when the markets are falling "cash is king".

Qyburn

Prism said:

It all depends on the company of course but in the worse case scenario, such as the company goes bust, there is no redundancy package. 

If the company goes bust then he'll get Statutory Redundancy, which looks like it's a bit more generous now than when I was in receipt in 2011.