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The Prudent Path: Saving Before Investing© Sound Mind Investing | December 2009
A question from an SMI subscriber voices a common frustration: We've been trying to build an "emergency" fund of $10,000, then start investing. But every time we get close to our savings goal, an expense comes along (car dies, hospital bill). It seems like we'll never hit $10,000! Wouldn't it be okay to apply our monthly surplus to Level Two and Level Three at the same time? We want to start investing! Perhaps you can identify with their situation. After years of steady plodding to build your contingency fund, you're almost there — and you're exhilarated. "At last! We're debt-free and have a financial safety net. We're finally ready to start making progress on investing." Then, boom! An unexpected expense puts a big dent in your emergency fund, depleting months' worth of savings. (Sigh.) Good-bye market. Hello savings fund. Sometimes it seems like you'll never get beyond this stage. "Is all this caution about having an emergency fund really necessary?" It's a reasonable question. And like many questions related to caution, there is no way to know the answer for sure. Is all this caution about diversification necessary? Is all this caution about wearing a seat belt necessary? Is all this caution about the swine flu necessary? Maybe it is; maybe it isn't. It all depends on what happens in an unknown future.  At SMI, our goal is to encourage you to take steps that will provide you with emotional comfort in the present and financial security in the years ahead. We can recommend, but ultimately it's up to you to do what you think is best and take responsibility for the results. If you want to put money in the market while still building (or replenishing) your contingency fund, that's a decision you're free to make. But suppose your investments start to suffer heavy losses, even as additional emergencies arise that further deplete your contingency fund? (Uh oh.) Of course, it's possible that everything could go well (fund values soar, no more emergencies arise) and you might be better off financially by not being quite so cautious. No one can be certain which option will end up being the more profitable course. But it is obvious which is the more prudent course: rebuilding your emergency reserve first. When fierce financial winds begin to blow, there is no substitute for having a strong foundation of adequate savings. But, as always, the decision is yours.
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