The Emergency Fund Rule of Thumb

Most financial experts advise that you should have 3-6 months worth of living expenses saved for emergencies. This emergency fund is meant to help you avoid financial distress — i.e., liquidating your investments in an untimely manner or going into debt in order to meet emergency needs.

Since preservation of principal and liquidity are the two most important aspects, one of the best places to park your emergency fund is inside a high yield savings account (e.g., online savings bank). You can still find good banks that offer interest rates in the 2% or higher range even in this economy.

A good trick is to adjust your emergency fund according to the economic condition. You can do this by adjusting the number of months equal to the current unemployment rate. For example, the current unemployment rate for the U.S. is 8.6%. Using this trick, you should have at least 8.6 months worth of living expenses in your emergency fund.

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