It was good advice. I had it written in a cell at the bottom of the first budget spreadsheet I put together thirty years ago: “Keep 3-6 months spending in an emergency fund. More if you smell layoffs coming.” We had just gotten married, we were watching every penny, and we viewed it as an important first step.
We took the emergency fund principle from Jane Bryant Quinn’s ‘Making The Most of Your Money’ – a book that shaped my financial planning know-how more than any other. Her emergency fund advice is more nuanced than just those two sentences, but that’s what stuck with me and guided our behavior for decades to come.
For most of my working career we kept our emergency savings even a little higher than she recommended. It wasn’t much money anyway, so why not keep a little more – between 6-9 months – to play it safe? The amount in our emergency money market fund rose each year as our spending did, and eventually became quite large.
When we drew near early retirement, our large emergency fund needed to be much greater still. It needed to become the ‘financial lifeboat’ we could tap in a severe market downturn – potentially lasting years – and save us from having to sell stocks before Wall Street could recover from a bear market.
Assessing previous bear markets, I knew that the average Wall Street downturn falls -30% and lasts 13 months. It typically takes another 9 months for the stock market to recoup its losses. That’s about two years total risk. At this point we shifted to the JP Morgan ‘Investment Bucketing’ approach and built up a full 3 years spending in cash as our short-term bucket.
I figured 3 years would be a relatively safe buffer. If it wasn’t, we also have a lot of discretionary spending in the budget that we could cut back on. Every discretionary dollar we don’t spend on travel, newer cars, and entertainment, will stretch out our ‘bear market insurance’.
Despite all of that good planning, I didn’t do a great job managing the size of our buffer since we early retired. I actually let it grow quite a bit bigger than just 3 years’ spending. Happily, it’s about 4 years’ of our typical spending now. I also have some ‘fun money’ I’ve made through consulting and board work that are worth about another 12 months’ spending. So all told, we are probably close to 5 years’ buffer now.
Given our relatively safe cash position, I suppose I could push some more money into equities now that the market has fallen so far from its peak. While I missed all of the markets growth with that money over the last 3 years, now I could get a second chance at it. On paper, that would probably be the smart move for us.
That said, I think I’ll keep our emergency fund parked just where it is for now. At our age and situation, it is probably more important to buy a little more safety than risk at this point. I’ll feel more comfortable knowing we are safely on the sidelines for the next 4-5 years and not having to watch the closing bell each day.
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