We will eventually face unanticipated financial emergencies, whether it be a minor car accident, an unexpected medical bill, a broken appliance, a loss of income, or even a damaged cell phone. Whether they are large or small, it can feel as though these unanticipated bills come at the worst possible times.
An essential step to safeguard yourself against financial emergencies is establishing a savings account or an emergency fund, which is also one of the first actions you can take to begin saving money. You will be able to recover from these unanticipated expenses more quickly and get back on track to achieving your larger savings objectives if you have some money set aside for them, even if it’s just a tiny amount.
Emergency Fund Explained
A cash reserve that has been intentionally set aside for unanticipated spending or financial emergencies is referred to as an emergency fund. Common causes of financial stress include the need for vehicle maintenance, home repairs, medical bills, or a reduction in income.
According to some research, those who have a difficult time recovering from a financial setback have fewer reserves to help protect them in the event of an emergency in the future. They might rely on credit cards or loans, both of which can result in debt that is typically more difficult to repay. In order to pay for these expenses, they might also use savings from other accounts, such as retirement money.
In general, you can utilise your savings for unexpected expenditures or payments of any size, whether they are huge or small, and they do not have to be a part of your regular monthly spending or costs.
Your ability to weather a financial storm without resorting to high-interest loans or credit cards is significantly improved by maintaining a reserve of liquid assets in the form of emergency money. If you already have debt, having an emergency fund can be extremely helpful in preventing you from needing to take out additional loans in the future.
Emergency Fund Benefits
It should be no surprise that experiencing an emergency in life might put a danger on your financial well-being and cause you to feel stressed. If you don’t have a financial buffer, you’re living on the “financial” edge because you always try to make it through the month without hitting rock bottom. Having the peace of mind from being prepared with an emergency fund enables you to confidently face any of life’s unforeseen occurrences without adding anxieties about money to your to-do list.
The following are some of the advantages of having emergency funds: –
- If you keep the money somewhere that is not immediately accessible to you; you won’t be able to spend it on a whim, no matter how much you want to. In addition, by placing it in a separate account, you will be aware of the exact amount you have and the amount you may still need to put away.
- It prevents you from making poor choices regarding your finances. There may be alternative ways, such as borrowing money, that you can fast get cash; however, at what expense? The disadvantages can include things like interest, fees, and even fines.
- This eliminates the possibility of a further build-up of debt. If you don’t have money set aside for unexpected costs, you might have to take out a loan from a financial institution like a bank or credit union in order to cover them. You will be required to pay interest on any money that you borrow from a financial institution like a bank or credit union (which can be high, depending on the circumstances). A savings account designated explicitly for emergencies gives you access to a different and more advantageous approach. Your money can help you escape sticky situations; there won’t be any interest charges, your debt won’t pile up, and your relationships won’t be jeopardised.
- It safeguards your financial investments. A well-rounded approach to long-term investing must always include a contingency savings account. If you do not have an emergency fund, you might feel pressured to sell your investments (such as your stocks, bonds, mutual funds, or exchange-traded funds) in order to pay for unexpected expenses. It is even more vital that you refrain from selling any of your investments if you are a passive investor (which is the type of investor that long-term investors are encouraged to be). To amass riches, you must first commit to investing for the long term and avoid making yourself a slave to the caprice of unexpected, short-term occurrences.
Top Vanguard Emergency Funds
Vanguard has a large portfolio of funds for investment, including 500 index-based Vanguard funds. For Emergency Funds, the following are the most suitable:
- Vanguard Federal Money Market Fund (VMFXX)
This fund is considered to be one of the “safest” of all the funds that Vanguard has to offer because it has strong linkages to the securities issued by the United States government. Over ninety-nine per cent of investments are made into cash assets, which means that you may anticipate high liquidity. This is great for emergency finances because you may need to withdraw your cash at a moment’s notice. On the risk scale that Vanguard uses, it receives a ranking of one, indicating that there is very little cause for concern regarding the possibility of loss.
The dividend yield that VMFXX is currently offering is 2.15% (based on its 7-day SEC yield), which is greater than the interest rate that is currently offered by the majority of savings accounts. In contrast to a savings account, VMFXX does not offer an interest rate. Even if a traditional savings account would serve as a good point of comparison for this fund, the dividend yield on the VMFXX is the metric that Vanguard investors ought to focus on rather than the interest rate offered by the fund.
The fact that this fund has never had a quarter with a negative return (also known as “never breaking the buck”) is a positive feature. This indicates that the value of your $1,000 investment in the fund will likely remain unchanged at any given time. However, it is important to keep in mind that the Vanguard investment minimum amount for this fund is $3,000.
However, when it comes to returns, it’s possible that you’ll fall short. In general, you might anticipate lesser returns with a fund that has a low-risk profile. However, the returns on this fund are still significantly better than those offered by a savings account. Certificates of deposit (CD) offer better interest rates but at the expense of your funds being unavailable for withdrawal for a predetermined amount of time. Money market funds give lower interest, but you will have rapid access to your money.
VMFXX is a solid choice for emergency funds. Begin here, if at all possible, and then proceed to investigate slightly riskier options. The fund’s expense ratio is about 0.11%, which is relatively low. There is no price associated with either the purchase or the redemption.
- Vanguard Short-Term Corp Bond Index Admiral (VSCSX)
The Vanguard Short-Term Corporate Bond ETF provides Vanguard investors with access to a judiciously curated portfolio of short-term investment-grade bonds at an exceptionally low expense ratio. By concentrating solely on corporate bonds, this fund should be in a better position to profit from market rallies than the majority of the other funds in the Morningstar Category, without exposing it to excessive risk. The share classes with the lowest fees receive a Gold rating from Morningstar Analyst Ratings, whereas the admiral shares receive a Silver rating because their charge is significantly greater.
The fund attempts to replicate the performance of the Bloomberg U.S. 1-5 Year Corporate Bond Index, a market-cap-weighted portfolio of investment-grade corporate bonds with between one and five years left until maturity. In order to be eligible, bonds must have fixed coupon rates, be denominated in US dollars, and have an outstanding par value of at least $300 million. Contingent capital assets with explicit balance sheet-based triggers, bonds with equity elements (warrants, preferred, and so on), and municipal bonds are not included in the index because of the index’s filtering process.
Due to the fact that these companies hold the lion’s share of the short-term investment-grade corporate bond market, the financial services sector constitutes the most significant portion of the fund. As of the month of May 2022, about half of the company’s assets were invested in this area, followed by around 10% and 7%, respectively, in the technology and industrial sectors.
Because of the fund’s low management fees and higher willingness to take on credit risk, it has consistently outperformed the average performance of its category. Even if it lags behind the average of its peers after major credit shocks, its investment-grade portfolio is not penalised to an excessive degree. Overall, its upside has been more significant than its drawdowns, which has led to an annualised excess return of 90 basis points over the average for the category since its launch in 2009 and continuing through June 2022.
- Vanguard Cash Reserves Federal Money Market Fund Admiral Shares (VMRXX)
More than twenty-five per cent of VMRXX’s total assets are invested in securities that were issued by corporations operating in the financial services sector. This category of investments in the UK may include securities that certain government-sponsored enterprises issued. As a result, the fund is exposed to a somewhat higher level of risk than VMFXX. On the other hand, Vanguard’s risk scale places this particular fund at level 1 out of 5, which means you do not need to worry about losing any sleep.
The dividend yield for VMRXX as of right now is 2.20 per cent. This is derived from the calculation of the typical seven-day SEC yield. It is crucial to keep in mind that VMRXX does not offer an interest rate in contrast to a savings account. Even though a regular savings account would serve as a good point of comparison for this fund, the dividend yield on the VMRXX is the metric that investors ought to focus on rather than the interest rate offered by the fund.
This fund has never experienced a quarter with a negative return (it has “never broken the buck”), which indicates that the value of your $1,000 investment in the fund is likely to remain the same at any given point in time. Remember that the lowest amount you can invest in this fund is $3,000, as that is the minimal requirement.
The expense ratio of the fund is 0.10 per cent. There is no price associated with either the purchase or the redemption.
- Vanguard Municipal Money Market Fund (VMSXX)
VMSXX could be a good choice for individuals who are required to keep their savings for unexpected expenses in a taxable account because it is free from paying taxes. On the other hand, this fund has delivered returns that are slightly low. Because every individual’s tax circumstances are different, it isn’t easy to provide a broad suggestion regarding whether or not this would be the most advantageous choice for you. In spite of this, the fact that there is no obligation to pay any tax on the distributions made from this fund makes it an appealing option for people who might require it.
The fund’s primary holdings consist mostly of municipal securities with tax-exempt status, as the name suggests. Because the yield from the fund is contingent on the existing interest rate environment, you can anticipate somewhat increased returns in the event that the Federal Reserve decides to raise interest rates.
The dividend yield for VMSXX is currently at 1.25% (7-day SEC yield. As was just discussed, there is no interest rate associated with VMSXX. The appropriate statistic to employ in this situation is the dividend yield.
This fund has not had a single negative quarter during the course of the last ten years. The Vanguard investment minimum required is $3,000, and the expense ratio for the fund is 0.15%, which is slightly more than average. There is no price associated with either the purchase or the redemption.
- Vanguard Short-Term Inflation-Protected Securities ETF (VTIP)
This fund uses inflation-protected US treasuries (TIPS) as the index. Because this product invests in assets with a duration that is on the shorter end of the spectrum, its sensitivity to shifts in interest rates is minimal. You can profit from earning distributions tied to inflation, which will allow you to maintain your wealth even if interest rates rise in an environment characterised by inflation.
The exchange-traded fund’s average trading price is close to $50, and its expense ratio is an extremely low 0.04%. Because of inflation protection, the ETF will continue to offer a return that is satisfactory even in an environment with high levels of inflation.
Because the fund didn’t begin trading until October 2012, Vanguard cannot provide a performance statistic for the previous ten years. However, as we are getting close to the 10-year milestone now, the return “Since Inception” of 1.56% is a decent proxy for the return over the course of the 10-year period.
There were certain quarters in which the fund had a return that was negative. The worst of it came in 2014 when it dropped 4.5% over the course of three consecutive quarters (with a drop of less than 1.5% in each quarter). Therefore, if you had invested $1,000, you would have ended up losing $45.
In the coming several quarters, it will be fascinating to observe how the inflation versus duration trade-off affects the performance of this fund. However, despite the fact that it is subject to volatility, it should still be considered a viable option for your emergency fund.
If you are prepared for unexpected expenses with a savings cushion, you won’t have to rely on other sources of credit or loans, which can lead to an accumulation of debt. Suppose you pay for these one-time emergency expenses using a credit card or take out a loan. In that case, the total amount you will owe could be substantially more than the amount you were initially charged because of interest and other penalties.