DFA reader Stacy asked:
I have $20,000 in a savings account and almost no debt. What is the smartest, most conservative way to invest my money. Sitting in a savings account feels like a waste.
Great question Stacy, let’s take a look. My recommendations are to:
- keep some cash in savings for use in emergencies (emergency fund)
- keep some cash in savings for your next vehicle rather than financing it (auto fund)
- keep some cash in savings for fixed non-monthly expenses
- invest the rest in safe, passive investing vehicles.
Be sure to keep enough cash in a savings account to cover three to six months expenses. If your monthly expenses are $3,000/month then keep between $9,000 and $18,000 in your emergency fund.
Do not invest this, it is for emergencies and needs to stay in liquid cash form so you can get to it quickly and easily when needed.
Next auto fund
Do you own your current car? If so, great, but be sure to save for you next vehicle so you don’t have to finance the purchase.
Financing vehicles is a waste of money. Some people can’t avoid it, but those with liquid cash on hand can, and they should.
Don’t buy new either, buy solid used vehicles that are a few years old. This helps you avoid that huge loss in value when new vehicles are simply driven off the lot.
I’ll never finance a vehicle again, and advise you to adopt the same position whenever possible.
Fixed non-monthly expenses
Stacy, are you budeting for fixed expenses that you know are coming, but are not monthly? I call these fixed non-monthly expenses.
Examples of these expenses are:
- auto insurance (we pay once every six months)
- bulk beef (we buy a quarter grass fed cow every year)
- CSA membership
- continuing education.
These expenses can be budget busters, but not if you plan for them!
Make a list of all your fixed non-monthly expenses, figure their cost on an annual basis, add the total amount up and divide by 12. This gives you the monthly amount you need to save to have enough money for these expenses when they arrive.
We created a separate Capital One 360 savings account called “Fixed Non-monthly Expenses” that we use to hold the liquid cash, and we tap that fund whenever one of these payments comes due. It is very useful and it saves us from having “budget busters.”
Invest the rest
Many people invest before they build adequate savings.
While it can be tempting to put all your savings into investments, it’s often not the best decision.
You need liquid cash too!
Keep liquid savings for the things mentioned above (plus any other needs specific to your situation) and invest the rest.
I too like conservative investments, and I prefer them to be mostly passive. In other words, I’m not going to advise you to go out and day trade stocks.
My recommendations are to invest in index funds and peer lending.
Open a brokerage account with Vanguard and invest in their target retirement fund that best fits your situation. This will give you diversification, balanced risk, and hands off conservative investing.
Another great option is to open a Betterment account. Betterment has built an amazing platform that helps new investors safely navigate the waters of the financial markets with confidence. Read my Betterment review and consider opening an account.
Right now Betsy and I have enough money saved for emergencies, our next vehicle, a years worth of fixed non-monthly expenses, and we’re investing the rest.
It feels good to be prepared.
Does anyone have any other advice for Stacy?
While I agree in premise, I think it’s important to consider the conservative approach of leveraging credit.
Recently I purchased a one year old Chrysler Town and Country. With the down payment I made, I financed $17,000 at 1.99% APR. When financed for 60 months, the payment is $297 per month, and over the course of the loan, I’d pay $844 in interest.
I set up an automatic payment from my bank account for $400 per month, which reduces my interest liability to $569 over the life of the loan, and reduces the term to 41 months, or just shy of 3.5 years.
Now, instead of dropping all of my savings on the new vehicle, I can take significant portions of that and place it in an interest bearing account. CD’s aren’t paying much right now, but it’s pretty easy to get a 60 month CD that will bear 1-1.75 %, which would mean I nearly break even on the interest paid for the loan, while I keep my principal in the event that it’s needed for another emergency. The few hundred dollars that I may pay over the course of the loan in interest is worth the security of having access to that money. Of course, I could also take a portion of that money and put it in a blue chip dividend bearing stock and have the potential to earn far more than 2%, with relatively small exposure to significant loss. Consider an S&P Dividend Aristocrat stock (stocks in this category have to have had 25 consecutive years of increasing dividend payments).
With all of that said, unsecured debt is bad, very bad, and in terms of secured debt such as a vehicle, we try to pay a vehicle off quickly and stretch the life of the vehicle to a minimum of 8 years, hopefully 10, because it’s a depreciating asset. My strategy may be different if I didn’t have savings that I felt could cover the balance or majority of the balance if need be. But. I believe there are legitimate places for responsible leveraging even in today’s debt free world.
Congrats Stacy, $20,000 in savings presents you with many options!
Matt Jabs says
Leveraging credit assumes income will always be there, which can be a troublesome assumption to make.
Uptun Gobel says
Savings accounts allow you to keep your money in a safe place while it earns a small amount of interest each month. Putting your money in a savings account is safer because it is insured.