Asset Allocation question: how do you count e-fund?

[caninelover]

Hi,

Been debating myself on this for awhile. When determining your asset allocation, how do you consider any cash set aside in an emergency fund? Do you include that in the "cash" portion of your asset allocation, do you not consider it all in AA or consider some portion of it?

I change my mind a lot but I've been flipping between not counting it at all in AA and counting a portion of it (e.g. anything beyond 6 month's expenses).

Thoughts?

 

[Alan]

FWIW, I don't include my emergency cash in the AA of our retirement savings. Being very close to retirement it is not a big % these days anyway.

Even in retirement I intend to keep a savings account outside of the retirement savings not included in the AA.

 

[ziggy29]

I don't. I only use AA on long-term investments, not emergency funds with a different purpose. Some people may also choose to consider things like pensions as a "bond" type investment with lower risk and "income".

 

[IndependentlyPoor]

I don't either. My emergency fund consists of some iBonds moldering in our safe deposit box. They really are my worst-case scenario funds and I intend to leave them there until they mature. As far as I am concerned, they are nearly perfect for this. You lock'em away and forget'em. No taxes to report, and they are inflation protected.

 

[W2R]

Like the others, I do not consider my 6+ months emergency fund to be part of my investment portfolio. It is in the bank with my spending money, and my investment portfolio is at Vanguard and in the TSP. I don't include that emergency fund or anything else I keep at my bank in my asset allocation.

I do consider part of my portfolio to be a "doomsday fund" of sorts. My asset allocation is conservative, and I have enough cash and bonds in my portfolio to last for around ten years or so if the bottom drops out.

 

[Alan]

I do consider part of my portfolio to be a "doomsday fund" of sorts. My asset allocation is conservative, and I have enough cash and bonds in my portfolio to last for around ten years or so if the bottom drops out.

ditto. I hope to never have to cash in equities because I NEED the income. Better to sell equities at a time of my choosing to top up my income producing funds.

 

[Maurice]

Like others my reserve cash is outside my AA model.

 

[REWahoo]

My cash is an asset. It is allocated to cash as part of my planned asset allocation. I suspect those who don't include it in their AA have a history of having some "hide money" somewhere around the house.

 

[Alan]

My cash is an asset. It is allocated to cash as part of my planned asset allocation. I suspect those who don't include it in their AA have a history of having some "hide money" somewhere around the house.

OP's question was not about all your cash, only about that cash set aside for an emergency fund. If you are retired you may not choose to have an emergency fund. I also have cash as an asset in my retirement fund - 10%. I also keep cash outside of my retirement fund for emergencies and big ticket items that I save up for.

 

[W2R]

My cash is an asset. It is allocated to cash as part of my planned asset allocation. I suspect those who don't include it in their AA have a history of having some "hide money" somewhere around the house.

I admit it. I have a tupperware sandwich box full of change, in a drawer in my kitchen. No bills, though. Like Alan, I have about 10% cash in my portfolio.

Do you include the cash in your wallet?

 

[REWahoo]

If you are not retired you may not choose to have an emergency fund.

I'd strongly recommend it.

 

[REWahoo]

Do you include the cash in your wallet?

Sure! Rich tracks his retirement percentage to two decimal places, I track my AA to five...

 

[ziggy29]

My cash is an asset. It is allocated to cash as part of my planned asset allocation. I suspect those who don't include it in their AA have a history of having some "hide money" somewhere around the house.

I think it makes more sense to consider cash as part of your AA if you're retired for the same reason you might not keep a separate emergency fund.

 

[REWahoo]

I think it makes more sense to consider cash as part of your AA if you're retired for the same reason you might not keep a separate emergency fund.

Yep.

 

[ERD50]

ditto. I hope to never have to cash in equities because I NEED the income.

There is a flip side to that. Odds are, if you needed to sell a small % of your equities to meet an unexpected expense, the market would be flat, or up - not down. If that were not the expectation, very few of us would include any equities in our AA at all.

I think it fits into that "behavioral finance" trap of "loss aversion".

Loss aversion - Wikipedia, the free encyclopedia

loss aversion refers to people's tendency to strongly prefer avoiding losses to acquiring gains. Some studies suggest that losses are twice as powerful, psychologically, as gains. Loss aversion was first convincingly demonstrated by Amos Tversky and Daniel Kahneman.

IMO, a large e-fund means giving up the expected 4% real returns (based on a 4% SWR) to avoid the *possibility* of a loss if/when an emergency might occur.

I approach an e-fund from the pragmatic view of, "can I come up with a payment in a matter of days if needed". So I keep ~ 4 months living expenses in my checking and tied money market (can be transferred immediately on-line), and some in a local bank. Beyond that, I want to keep my money working for me. A GNMA fund pays a lot more than a checking/savings account. A transfer from my portfolio might take a week to clear, so I don't count that as e-fund money, just a "replenishment of e-fund" money.

And yep, I *might* need to replenish at a loss. So far, it hasn't happened, and I'm not going to give up incremental returns on that long shot. A reasonable attempt at keeping on top of things eliminates many "emergencies", but stuff does happen.

-ERD50

 

[segfault]

I am still w*rking, and I consider my emergency fund as part of my asset allocation. I intend to never dip into it, and thus it's part of my investment portfolio (a part that I keep in cash because I may need it with little notice).

 

[freebird5825]

I definitely count my short term cash stakes in my overall AA. I keep my long term portfolio in one account, and my short term in another for ease of tracking and planning on the basis of time frame until needed.

 

[Lusitan]

To me, an "emergency fund" is really a paycheck-insurance fund.

I don't count my emergency fund in my overall asset allocation. I consider the emergency fund as "spent money" that's sort of like an insurance policy I have to pay for while I'm dependent on a paycheck. My default assumption is that an emergency will happen and use up that money before I hit FIRE, so I'm not going to count on it.

If I reach FIRE with the emergency fund still sitting there, I will simply re-adjust my asset allocation at that time.

 

[Alan]

There is a flip side to that. Odds are, if you needed to sell a small % of your equities to meet an unexpected expense, the market would be flat, or up - not down. If that were not the expectation, very few of us would include any equities in our AA at all.

I think it fits into that "behavioral finance" trap of "loss aversion".

Loss aversion - Wikipedia, the free encyclopedia



IMO, a large e-fund means giving up the expected 4% real returns (based on a 4% SWR) to avoid the *possibility* of a loss if/when an emergency might occur.

I approach an e-fund from the pragmatic view of, "can I come up with a payment in a matter of days if needed". So I keep ~ 4 months living expenses in my checking and tied money market (can be transferred immediately on-line), and some in a local bank. Beyond that, I want to keep my money working for me. A GNMA fund pays a lot more than a checking/savings account. A transfer from my portfolio might take a week to clear, so I don't count that as e-fund money, just a "replenishment of e-fund" money.

And yep, I *might* need to replenish at a loss. So far, it hasn't happened, and I'm not going to give up incremental returns on that long shot. A reasonable attempt at keeping on top of things eliminates many "emergencies", but stuff does happen.

-ERD50

I have always had a 6 months e-fund and never had to dip into my retirement savings during my working life, and sure, I accept that having an e-fund in MM and savings accounts I have probably missed out on some returns but that is a price I have been prepared to pay for piece of mind. (I do not consider the e-fund a large amount - ~2% of my total investments).

When I ER in a few months I intend to treat the income from my retirement similar to having a paycheck. If I retired today the initial withdrawal would be 2.2% then I'll increase for inflation to cope for both my pension (which is non-COLA) and my initial withdrawal. I intend to keep a 6 month e-fund outside of the retirement investments just like I have always done and yes, I am giving up some return but it's just the way I am.

btw, I intend to have an AA of 35/50/15 in my retirement account and while I re-balance annually now I am considering Jim Otar's recommendation of once every 4 years once in the withdrawal phase - only time will tell if I have the nerve for that.

 

[theloneranger]

No need to have a bunch of cash around or earn practically nothing in a checking account. The credit union is now paying 3% on CD's. Better to have several set up in a ladder and take the small penalty if needed to cash one in for an emergency.

 

[caninelover]

Loneranger, I count "cash" as savings, MM, or CDs.

Thanks for everyone's responses. I guess where I am at is taking 6 months cash and putting that in a seperate e-fund bucket that I don't count in my AA. But any cash beyond that I will count towards my retirement portfolio AA (unless, obviously, it is earmarked for something specific, e.g. car). If a dire emergency hit and I needed more than the 6 month e-fund (knock on wood...) that the cash is there to use, but I would need to rebalance the portfolio back to its target AA.

Thanks for all the insights, it was very helpful...