The 3 Months Emergency Fund is a terrible idea

In this week’s edition:

• The 3 Months Myth

• Why it might not work for you

• How to determine the right Emergency fund

The 3 Months Myth

There's a popular saying in personal finance: "Don't waste money on an emergency fund that covers more than 3 months' expenses." 

The idea is simple – it takes 3 months (on average) to find a new job, so that's all the cash you need to cover the gap. Any extra should be invested for potential gains. 

Maybe you just read this and thought “makes total sense”

Or, if you’re like me, it gives you an uneasy feeling in your stomach.

3 Months worth of cash ? That’s it ? Sounds like a great idea to never have a good night’s sleep again.

Here's why this "3-month rule" might not work for you:

• Emergencies aren't one-size-fits-all: a 3 months fund could cover your living expenses for 3 months or a large unexpected expense. But, you could lose your job and face a hefty medical bill. The 3-month rule doesn't account for these scenarios.

• 3 months is just an average: Job hunts can drag on much longer, especially in tough economies.

• It ignores your unique situation: Do you have dependents? Are you insured? What about unemployment benefits? These factors all play a role in how much you need to save.

Don’t get me wrong, if you have a $0 Emergency Fund, 3 months is a great milestone to reach.

Otherwise, here are some questions to help you decide:

1. What does a “monthly expense” actually mean ? Are you counting bare necessities or including discretionary expenses like going out ?
   

2. How much did you spend in the past year ? This is where “one off” expenses start to show up. When we think of expenses we think of rent, bills, groceries but there’s always a one off cost here and there that comes up

3. Are you insured ? Is your insurance linked to your employer ?
   

4. Are you in a country that offers unemployment benefits ? How much ? How long ? How reliable ? Are you sure you qualify for them ?
   

5. Do you have dependents you might need to support (ex: parents)  ? 
   

6. Does this amount help you sleep at night? Peace of mind is priceless.

Could you end up with a much larger Emergency Fund than 3-Months ? Yes.

I’m personally fine with this but hey, I’m more paranoid than most!

Now, at some point, “building your Emergency Fund” becomes an excuse not to invest.

It’s comforting having a large pile of cash in the bank; and investing can be scary.

But, beyond your target Emergency Fund number, your cash has better use elsewhere. 

In Summary

• The 3-month rule for emergency funds is a guideline, not a law.

• Your ideal emergency fund amount depends on your individual circumstances.

• Consider factors like your expenses, insurance, job security, and dependents.

• Prioritize peace of mind – how much do you need to sleep soundly?

• Don't forget about the opportunity cost of not investing. Find a balance that works for you.

The information contained in this newsletter is for general informational purposes only. It should not be construed as financial or investment advice. Please consult a qualified financial advisor before making any investment decisions.