Regardless of your personal circumstances, having some of your assets in a readily-available reserve is prudent planning. No one can predict the future, so it’s best to plan in case of emergency or market downturn.

So what are your options for an emergency fund? What about for a liquidity reserve? And how do the two differ? Let’s break it down according to your lifestyle stage.

For clients who are actively employed and earning income, we recommend holding an emergency fund that can cover 6 to 12 months of living expenses.

Those who are retired or preparing to retire have different considerations, but the idea of having a reserve remains important.

EMPLOYED AND SAVING TO YOUR PORTFOLIO

When you are still in the workforce and earning an income, the purpose of an emergency fund is to provide a ready source of cash that can be drawn upon when the unexpected occurs. This may be a temporary disability, job loss, or even the need to provide financial help to a family member.

This is not a fund for you to use for travel or other plans, as important as such plans may be to your well being.

The first objective for your emergency fund is that the funds are readily available when they needed (such funds are “liquid,” meaning they are easily converted to cash).

For this reason, unless your reserve is substantial, limit any restrictions that might be imposed on the access to these funds.

Bank savings or money market accounts are often the most commonly used vehicles for emergency funds. Savings certificates with a fixed maturity date and specified fixed interest rate, known as certificates of deposit and commonly referred to as CDs, can serve in an emergency fund, but note that CDs should be of very short duration (1 to 3 months) so as not to impair liquidity when funds are needed.

DRAWING ON YOUR PORTFOLIO

For those clients drawing on their portfolio to help fund their living expenses, a key consideration becomes cash flow. An important component should be considering how you will draw out your needed cash flow when markets are declining—including contingency planning for possible extended declines; for example, the market downturn occurring between 2007 and 2009. We advocate establishing a liquid reserve.

Like an emergency fund, a liquid reserve is a pool of money that can be drawn upon. However, it is for use during a market decline (not a personal emergency).

When market declines persist and the level of decline crosses a predetermined threshold, this triggers the decision to discontinue “regular” portfolio withdrawals, and to begin drawing on the liquid reserve. The objective is to limit the demands on your portfolio investments when the portfolio is under greatest stress (such as the stress arising from falling equity markets).

We typically recommend that a liquid reserve fund 18 to 24 months of needed income. Client circumstances may allow for a greater or lesser target.

In all cases, as with clients funding an emergency reserve, the first objective of this reserve is that these funds will be available (liquid) when needed.

WHERE TO KEEP YOUR EMERGENCY FUND

Subject to the size of your reserve and the time horizon over which these funds may be withdrawn, options for your reserve funds can range from CDs or short-term Treasury Bills to “ultra-short term” bond funds. Each of these can have advantages and some combination may be the best solution.

Where an ultra-short term bond fund is considered, it is important to understand that unlike a savings account that cannot lose principal, a bond fund, even an ultra-short fund, can decline in value in a volatile rising interest rate environment. Our past experience suggests that these funds can recover fairly quickly, but a short term decline can certainly be experienced. While ultra-short funds have historically offered better yields than bank instruments, today, these funds are not necessarily offering notably better yields than may be available through some FDIC-insured vehicles.

Despite the current low yield environment, for some folks, a bank savings or money market account may be best. For those willing to shop around, particularly if you’re willing to work with an online bank, you can find savings account return rates above 1% (significantly better than the average bank savings account).

IMPORTANT DISCLOSURE INFORMATION

Please remember that past performance may not be indicative of future results.  Different types of investments involve varying degrees of risk, and there can be no assurance that the  future  performance  of  any  specific  investment,  investment  strategy,  or  product (including  the  investments  and/or  investment  strategies  recommended  or  undertaken by Private Ocean,  LLC[“Private  Ocean”]),  or  any  non-investment  related  content,  made reference to directly or indirectly in this blog will be profitable, equal any corresponding indicated  historical  performance  level(s),  be  suitable  for  your  portfolio  or  individual situation,  or  prove  successful.    Due  to  various  factors,  including  changing  market conditions  and/or  applicable  laws,  the  content  may  no  longer  be  reflective  of  current opinions  or  positions.    Moreover,  you  should  not  assume  that  any  discussion  or information  contained  in  this  blog  serves  as  the  receipt  of,  or  as  a  substitute  for, personalized investment advice from Private Ocean.  Please remember that if you are a Private Ocean client, it remains your responsibility to advise Private Ocean, in writing, if there are any changes in your personal/financial situation or investment objectives for the purpose of reviewing/evaluating/revising our previous recommendations and/or services, or  if  you  would  like  to  impose,  add,  or  to  modify  any  reasonable  restrictions  to  our investment advisory services. To the extent that a reader has any questions regarding the applicability of any  specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional advisor of his/her choosing. Private Ocean is  neither  a  law  firm  nor  a  certified  public  accounting  firm  and  no  portion  of  the  blog content should be construed as legal or accounting advice. A copy of the Private Ocean’s current written disclosure Brochure discussing our advisory services and fees is available for  review  upon  requestor  at www.privateocean.com. Please  Note: Private  Ocean does not  make  any representations  or  warranties  as  to  the  accuracy,  timeliness,  suitability, completeness,  or  relevance  of  any  information  prepared  by  any  unaffiliated  third  party, whether  linked  to Private  Ocean’s web  site  or blog  or  incorporated  herein,  and  takes  no responsibility   for   any   such   content. All   such   information   is   provided   solely   for convenience  purposes  only  and  all  users  thereof  should  be  guided  accordingly. Please Also  Note: IF  you  are  a Private  Ocean client, Please  advise  us if  you  have  not  been receiving account statements (at least quarterly) from the account custodian.