The WSJ Says Invest Your Emergency Cash, What?!?

by: Roger Nusbaum

Yesterday I engaged in a pretty decent Twitter exchange driven off an article at the WSJ suggesting that people invest their emergency cash. I quipped that it sounds like a great idea until there is a crash (which is to say I think it is a bad idea).

For proper context, emergency cash is that three-six months worth of expenses that financial experts say people should set aside for some sort of unexpected hardship. Setting some amount aside like this is a great idea but people should pick a number of months that makes them comfortable, not what someone else suggests.

A few people retweeted me including Helaine Olen who said "you always see stuff like this as the stock market gets too good to be true. It's like a sign." I replied "very common for people to forget what the last very large decline felt like, impatience always replaces fear" eventually (that last word did not fit in the tweet).

Whether we are at a point now where people have forgotten what 2008 felt like and now they are impatient and willing to take on more volatility than they should is certainly debatable but I do believe we are way past that point.

Whenever the next large decline comes, there will of course be people who find out they had too much exposure to the wrong asset class after that asset class falls a lot. The idea of impatience leading too much volatility or risk in the portfolio is a predictable behavior that has repeated over and over in the past and will repeat over and over in the future.

The reason to not invest emergency cash or any potential short-term money is that it can go down in value and take years to come back.

As a follow up to the post from the other day about the difference between volatility and risk, it occurred to me that volatility turns into risk when a large decline causes an emotional reaction that leads to panic selling. Someone who panic-sold at the 2009 low converted volatility (that has since recovered obviously) into a potentially permanent impairment.