Here’s one of the most fundamental objectives one should prioritize – setting up an emergency fund.

It is foolish to think that we will never undergo an emergency in life and most of the time emergencies cost a lot of money. In my seminar Steps to Financial Peace, I talked about setting up an emergency fund as the 3^rd step to achieving financial security.

Before starting on emergency fund, it is best if you know how much you actually spend in a month. Many people I know are clueless as to how much they spend monthly. During a financial planning session, I asked someone how much he spends monthly. He told me that he wasn’t sure as to the exact figure so he said he will just give me a ballpark figure. The figure he gave me was P40,000 to P80,000. If the discrepancy was about P5,000 to P10,000, it would have been understandable but P40,000? I politely asked the person to really think about all his expenses, examine his bills, record his spending and get back to me.

If you already have a monthly figure, you are now ready to start building your emergency fund. The rule of thumb for emergency allocation is somewhere between 3 to 6 months of your monthly expenses. 3 months is good, 4 months is better, 5 months will be great and 6 months is excellent. Emergency funds come in handy for a variety of reasons: medical emergencies, loss of employment and so forth. You should also be sensible in determining what an emergency is and what it is not. A 42” flat LED TV that is on Sale is definitely not an emergency.

Why should you set up an emergency fund? Here are 3 good reasons why you should:

1) Emergencies do happen:  It is foolish to think that emergencies will not happen to you. As time goes on, you realize that things do come up that you have not planned for; and you’re going to have to provide for them.  Things do happen, and they won’t happen at a convenient time.

2) Relieves stress:  Having an emergency fund has an added bonus — Peace of mind! You will feel relieved because you no longer have to worry about most small emergencies.  Once you get your larger emergency fund saved, you won’t have to worry about paying for most large ones either.

3) Risk reduction:  When you have established a emergency fund (along with other important things like life insurance, non-life insurance and health insurance), you have a lot less risk of unfortunate things happening.  You will also be less like to go into debt.  In other words you’re making sound decisions to plan for problems, before they actually happen.

I know that starting an emergency fund is not easy for others but this is definitely something we should prioritize. Dave Ramsey suggests we do it by ‘baby steps’. Set aside little money regularly into an emergency fund. Do it in stages like 1 week worth of expenses first, and then move to 2 weeks, to 3 weeks and so forth. Keep a piggy bank or an envelope for you to put your cash into it. My wife and I have this big transparent piggy bank where we put bills into. Once the amount reaches P3,000 to P5,000, we transfer it to our savings account that is dedicated for emergency funds. We also take baby steps too.

Here are some tips:

1) Keep your emergency fund in cash or near cash placements like savings, current, time deposits or Special Deposit Accounts (SDA). Do not invest your emergency funds yet as those are intended to be a buffer or a margin for your finances. Make sure that the deposits can be withdrawn quickly and without huge penalties.

2) Keep some of those funds in an ATM account, say 2 weeks’ worth. Emergencies do not necessarily occur during banking hours.

3) Once you have achieved an ideal 6 months emergency buffer, start investing in better yielding instruments like marked to market funds (UITF, Mutual Funds) because said instruments should perform better in the long run. If you keep all your money in low yielding deposits, its value will ultimately erode because of inflation.

Gear up for an emergency because it is the wise thing to do.

“A prudent person foresees danger and takes precautions. The simpleton goes blindly on and suffers the consequences.” – Proverbs 27:12, NLT.

Here is an interesting thought: Would Jesus have an emergency fund? Read this LINK.

Here’s a guest post from Melvin Esteban. Excellent writer!

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A Risky World

Filipinos are generally conservative. Surprisingly though, you’ll still hear a lot of people losing so much money on the investment that they bought. In all the talks that I had, I’ve always been asked what investment do I best recommend that will give good return without taking risk. Well, bad news is, this investment don’t exist. Even your friendly and safe “Time Deposit” or “Savings Account” is not totally risk free.

No matter how you fix your investment and regardless on how much you diversify it, you can never remove risk. To better understand, there are two kids of risk. The risk associated with your investment (as an investment or a whole portfolio) has two components.One (unsystematic risk) can be diversified away, and the other (systematic risk) cannot.

Unsystematic Risk

Good news is, this can be diversified. This type of risk is very specific to the asset you bought (firm specific).

Say for example there was a massive recall of product produce by the company you invested because they found out it was tainted with poison or say the company unexpectedly in a deadlock with his labor union or even as simple as the a warehouse catching a fire.Financial risk will also be high if the company has high level of debt and Business risk will be elevated if investment is only concentrated to few industry or asset class.

You can eliminate this by simply just adding different investments and class of investments. This risk can be reduced because the other asset in your portfolio can offset the unsystematic risk associated with that asset. If poorly set up though, you may still end have a high unsystematic risk while a well set up will eliminate this risk.

Systematic Risk

This risk cannot be removed nor diversified away. This risk is market related compared to the first one that is firm specific. Market related may be the macro economic variables.

Examples of such macroeconomic forces are unexpected changes in the country’s growth rate like GDP and GNP, consumer price index, industrial production, interest rates, exchange rate, or even the money supply. In cases like this, your entire portfolio will be affected. Though an asset may be affected more than the other, overall, there is no way for any investment to escape from the impact.

The combination of the unsystematic risk and systematic is the risk total risk your portfolio. As mentioned earlier, unsystematic risk can be diversified and removed. So if properly done, what will be left is still the systematic risk.

So next time somebody tells you that the investment that they are offering is a sure thing! You may want to think twice.

HAPPY WEALTHY LIVING!

Melvin J. Esteban, RFP, CFC, FLMI, ACS is a contributor for Income-Tacts.com, the country’s premiere personal finance on-line community dedicated to the financial literacy of Filipinos. He is also the President of Motivating Minds, a consulting company. To write the author, send e-mail to [email protected]

Property insurance is a risk-distributing device.  A person puts money called premium to a common fund and distributes his risk to the group.  There is no way for a person to know in advance whether he will receive compensation more than he has contributed or that he will be merely paying for the loss of others.

The primary goal of a person getting insurance coverage is to assure himself that he will not shoulder the loss alone.  He may gamble, take his chance that he may be able to steer his property away from a loss and its devastating effect.  But putting a minimum amount, and considering that such amount is the only sum he is bound to loss in case a loss actually occurs is the logic behind getting protection for your property.  However, it is unfortunate that most Filipinos remain clung to his fatalistic philosophy of “Bahala na.”  When the loss happens, it is already too late.

Risk is an everyday reality.  This is the reason why people make calculations instinctively to avoid risk.  They forget that their own negligence (lack of foresight, lack of skill to prevent loss) is the paramount reason why property insurance is there in the first place.