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After the September 11th attack on the Pentagon and World Trade Center, the American financial system was shut down for four days. With stock exchanges closed and money markets, stocks, and mutual funds frozen, investors temporarily lost access to their cash and investments. A year later, as we reflect on the tragedy, investors should remember one important lesson... you must have liquid assets.
What are
liquid assets and where can I store them
The term liquidity refers to how fast something can be turned into cold, hard
cash [the kind you stick in your wallet]. Liquid assets are those that are
thought to be turned to cash immediately. On one extreme of the scale are
the dollar bills and change you have stuffed in a cookie jar or mattress at
home. These assets are the most liquid [meaning you can immediately spend
them], but the least safe. On the other end of the scale are assets such
as real estate, which can take months or even years to convert into cash.
For immediately access to your cash you can stick it:
- In your house [hopefully
well hidden]
- In a savings or checking
account
- In a money market account
- In short-term CD's from your local bank
In most cases, sticking your money in the bank is considered extremely safe. America's banks have not be frozen since 1933 when Roosevelt declared a "banking holiday" which lasted three days, and it seems relatively unlikely such an event would happen again in the near-term. Money market funds can cause problems because, in the event yours is administered by a mutual fund company, you may lose access to your cash if the financial markets shut down [which is precisely what happened to many investors on September 11th].
For emergency purchases, you should not consider stocks, bonds, mutual funds, government savings bonds, annuities, or insurance policies as liquid assets. In addition to the normal rise and fall in such investments, you run the risk of not being able to sell them if the exchanges are closed again.
Why
should I keep liquid assets?
Even if you don't own any investments, you still need a cash reserve.
Why? Think back to last year. Once Manhattan was shut down, dozens
[even hundreds] of businesses could not operate. Their employees were
unable to get paid, meaning they suddenly had no source of income. What if
there were a tragedy or extraordinary event in your area and you suddenly
couldn't report to work? Much more likely, what if such an event caused
your company to run into tough financial times and they either closed their
doors or started laying off employees? How would you survive?
How
much should I keep in reserve?
The level of cash
you should keep on hand is largely dependent upon your estimated monthly
expenses. In all cases, you should be able to support yourself and family
for at least a month or two. It's important to remember that national
emergencies are much less likely that personal emergencies - car repairs,
layoffs, washer and dryers falling apart, etc. Having cash on hand will
allow you to stay the course with far fewer worries.
Copyright © 2002 Joshua Kennon