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Emergency Fund Account: Money Market or High Yield Savings?

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What is the most important thing about emergency funds? Capital preservation. Your emergency fund is supposed to be the foundation onto which the rest of your personal finance house is built upon and it’s not something that should be meddled with unnecessarily. You should pour it, let it sit, and hopefully never have to touch it. However, if you ever find yourself in a situation where you’ll need it, you want it to be there just as you had left it. That being said, a friend recently asked me if I ever thought about putting my emergency funds into a money market account or if a high yield savings account is better.

Money Market Deposit Accounts (MMDA)

For those who aren’t familiar with money market deposit accounts, they are basically savings accounts where the bank has greater discretion in terms of what it can invest in. In return for this greater flexibility, the banks often will give you higher interest rates but may demand that you give them at least 7 days notice before withdrawals (Federal Reserve Regulation D).

  • Principal is safe.
  • Interest rate is higher than regular savings.
  • Potential 7 day lag in accessing funds.

High Yield Savings Accounts

ING Direct, the high yield savings account that I believe has been around the longest, is offering 4.20% APY on their online savings accounts. Comparatively, Bank of America’s Balance Rewards Money market savings account’s highest APY is only 3.05% and that’s if you have over two and a half million dollars in your money market savings account. BoA’s money market account likely isn’t the highest around but it’s not even within spitting distance of ING’s 4.20% rate for nothing (and ING isn’t the highest rate around either!).

  • Principal is safe.
  • Interest rate is higher than regular savings.
  • 4-5 day lag in transferring funds from high yield savings to your bank

Money Market Mutual Funds

A money market deposit account may be confused with an actual money market mutual fund, which is a wholly different animal. A money market mutual fund is like any other mutual fund with its own risk and return profile. You might be offered a higher rate of return but in this particular case you have no guarantee on your principal. If things go south in whatever the fund invests in, like in any mutual fund, your emergency fund could find itself depleted. I would not invest my emergency fund in anything that doesn’t guarantee my principal.

However, let’s say you wanted to take the risk, what are the returns like? Vanguard’s Federal Money Market fund, just to take a random example, currently has a yield of 4.69% and an expense ratio of 0.24%. So, even if we ignore the expense ratio and look strictly at the yield, you’re talking 4.69% versus a 4.20% at 100% safe ING Direct. Half a percent isn’t worth it for me to open an account, transfer money, and take the risk.

  • Principal is not safe.
  • Interest rate is higher than regular savings.
  • Lag if you don’t have checkwriting rights.

Summary

Put part of your emergency fund in a high yield savings account, keep some reserve in a local bank so you can get to it ASAP. I don’t know why anyone would have any funds in a money market deposit account given current high yield interest rates. I also don’t know why anyone would put their emergency fund in a mutual fund, money market or otherwise, because of the risk, even if it’s low, you could lose your principal. We’re in a strange place now where high yield online savings accounts are giving such great returns and all these traditional products, like MMDA’s, are really not worth it anymore.

Where do you put your emergency savings and why?

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28 Responses to “Emergency Fund Account: Money Market or High Yield Savings?”

  1. Tim says:

    I personally put my emergency fund in a high yield savings account with HSBC. With the federal rate cuts, I’ve been shopping around to ensure I’m still getting the best rates. You may want to check out this site for a comparison of many of the high yield savings accounts and their rates as of 1/26/08:
    http://themoneykings.com/blog/comparison_of_high_interest_savings_account_rates

  2. Visitor says:

    I only wish that ING Direct had that interest rate right now (4/27/12), after Capital One bought it out only gone down hill nothing is what it used to be, I’m thinking of switching to Ally Bank, but I’m not really set on anything definite right now.


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