Step 2 – Setting up Your Emergency Fund

Step 2 involves the only form of saving I like – Emergency Funds. So first of all, what are emergency funds? An Emergency Fund is essentially an easily accessible liquid asset that can be used during an emergency.

While the basic definition of an Emergency Fund is pretty self-explanatory most people don’t know the properties that make up a good emergency fund. So here are the proeprties.

How big should an emergency fund be?

Emergency funds can vary a lot depending on the individual, so as a rule of thumb, here’s a solid metric to base the size of your fund on.

This is where Step 1 comes in handy. If you’ve been following along (I hope you have), you should already know your complete monthly expenses by now.

At a minimum, your emergency fund should cover at least three months’ worth of expenses. Ideally, it should be six months—and if you really want extra security, you could even push it up to a year.

Anything beyond a year? I wouldn’t really recommend it. For most people, six months of expenses should be more than enough of a buffer to handle whatever life throws their way.

Features of a good emergency fund

The most important feature in an Emergency Fund is that it is easily Accessible and Liquid

You should be able to pull it out without any hassle—period. The most obvious option? A savings account, which works perfectly for this.

Other solid choices include short-term, highly liquid, low-risk Unit Trusts or even Gold. However if you are using an asset like gold keep at least 2 months of expenses in a bank account and the remaining 4 months in gold. 

Also when I mean gold , I mean investment gold like coins or bars – not jewelry (though jewelry could be used even though it is suboptimal )

Another feature of a good emergency fund is that it is Stable and Safe

The main goal of an emergency fund isn’t to grow your money—it’s to be your safety net. And what good is a safety net if a random gust of wind can tear it apart?

Your emergency fund must be in an incredibly stable asset. That means no Crypto , Stocks or anything remotely risky.

The fund must maintain its value or even grow over long periods of time

 While I mentioned that growing your wealth is not the priority of an emergency fund . Being able to at least maintain it’s value is vital. Therefore its essential that you get some form of interest to keep up with inflation or in the very least reduce its impact.

Assets such as low risk , high liquidity Unit Trusts and Gold  already have inbuilt interest making them optimal. 

Using a Savings Accounts at a bank is also an option. While it definitely won’t match inflation, it will at least minimize the blow with some interest.

Cash however is a big no no. You get absolutely no interest here. (Plus how are you even going to logically store 6 months worth of cash physically anyways ?)

Additional Benefits of an Emergency Fund

Emergency Funds as the name implies is for emergencies -but they also provide a few other benefits. These are as follows:

Independence and peace of mind

Having a six-month emergency fund gives you a sense of stability that lets you handle situations differently.

Imagine being stuck in a job you absolutely hate. With an emergency fund, you have the confidence to walk away and search for better opportunities—because, after all, you can live exactly as you have been for six months without any issues.

An emergency fund also gives you the leverage to leave situations trapped in the “region-beta paradox,” potentially leading to massive positive changes in your life. What’s the region-beta paradox? Read about it here :

Safeguards your actual investments

Ever had to get your tires changed? (Or maybe not—with the country’s absurd car prices.) The TL;DR?

Tires are really damn expensive.

Without an emergency fund, unexpected costs like this can eat into your investments, significantly reducing your long-term earnings potential (since compounding gets affected).

An emergency fund acts as a financial shock absorber, protecting you from life’s unexpected curveballs.

Closing Remarks

One thing I’ve noticed about emergency funds? Some people end up dipping into them for nights out, new gadgets, or even vacations. That’s a huge no in my book.

An emergency fund is meant for emergencies. A strict line needs to be drawn—because if you don’t, when you actually need it, it won’t be there.

I get it—it’s tough to just stash away six months’ worth of money, especially since it’s so accessible and liquid. But an emergency fund is something you build, set aside, and forget about until you genuinely need it.

Well, that wraps up Step 2. Now, let’s move on to Step 3—Setting Up Your Personal Investment Portfolio.