Wednesday, July 14, 2010

Protecting Near Term Fund Needs

During this economic crisis, a key insight for me was the importance of keeping funds for near term expenses in non-volatile investments. Doing so avoids the discouragement from having a significant part of the funds eliminated by market fluctuations. This is a change from the past, when keeping near term funds in the stock market was a relatively good decision.

Since retiring, I have been defining near term as 3-5 years. While working, I probably would have considered near term as one year, since we would have more stability with a regular income.

Here are some examples of our near term fund needs we want to protect in retirement:
  • Living expenses such utilities, food, transportation, entertainment and insurance. These are relatively consistent year to year and we can plan for them on a 3-5 year basis. We have the amount for this period invested in money market funds and CDs.
  • Emergency fund. While this is never planned, we like to have a fixed amount available when needed. Since retiring, we have included our emergency fund as part of our 3-5 years of living expense funds.
  • Here are some short term fund needs we will want to protect for the future:

  • Car purchase. Although we are at least 5 years from a car purchase, we have that amount set aside in a separate account in mainly money market funds.
  • College tuition. The college account we have for our daughter is currently 100% invested in stocks since she is 13 years away from attending. When she is a sophomore in high school, we plan to convert the investments to money market funds and CDs. This would help us avoid the possibility of having college fund investments decline significantly, as they did in the past two years, when the tuition is due.
  • Although I don't expect to need one again, I would consider a home down payment as a near term expense that would be important to keep in non-volatile investments.

    The non-volatile investment instruments I use are cash, money market and CD accounts. Although these are paying very low interest rates, I can be confident that the principal will be available when I need the money.

    For more on The Practice of Personal Finance, check back every Wednesday for a new segment.

    This is not financial or investment advice. Please consult a professional advisor.

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