Why You Need Short-Term Savings

Everyone needs some short-term savings. In fact, most people need a big pot of it, stashed somewhere safe and easily accessible. By "short-term savings," we mean the money you'll need for emergencies and for big expenses you'll incur over the next three to seven years, depending on your tolerance for risk, volatility, and a market-induced change of plans.

In the short-term savings area of The Motley Fool, we'll talk about places to put the money you need at-the-ready -- checking accounts, saving accounts, money market accounts, certificates of deposit, money market funds, and short-term bonds -- and the pros and cons of each investment. We'll help you figure out how much you may need and the circumstances under which each type of investment may be right for some portion of your more liquid assets.

When we say "liquid assets," we're not talking about oil or vintage wine. Think of "liquidity" as the ability to be quickly and easily poured from one vessel to another with little loss. Cash is the ultimate in liquidity. It's welcome everywhere, there are no costs associated with using it, and it's always worth exactly what you think it's worth. By contrast, real estate is not very liquid. It takes a long time to convert it into a readily transferable form, and you tend to "spill" quite a bit -- a whole bucket load of commissions and closing costs. In between cash and real estate is a range of investments, with varying levels of liquidity.

What could happen if you don't have short-term savings? One of two very unfortunate things:

  • Emergencies or even should-have-been-foreseen expenses will spring a credit card trap on you that can take years to escape from. How Foolish it is to have the money you'll need soon safely accruing interest, instead of charging that valve job or honeymoon and paying double-digit interest rates on it for years.

  • To cover a sudden (or not-so-sudden) expense, you may have to sell assets, such as stocks, that were intended to cover long-term goals. Consider this all-too-likely scenario: You put all your spare money in the stock market, and suddenly you need $2,000 for car repairs. Unfortunately, this happens during a time when the market is down, and you have to sell your stocks at a loss. Plus, that money is no longer invested, so you will miss out on future growth.

Though your short-term savings will never rival returns on stocks over the long term, we certainly think that short-term money needs to earn its keep, countering inflation and maybe earning a little more. You've got several options on where to keep your short-term stash. But first you need to do a bit of financial self-reflection to determine how much short-term savings you need and when you'll need it.

Visit our Savings Center for more scoop on your options and some special interest rates.

To learn to more about brokerages and possibly find a better brokerage for yourself, check out our Broker Center.

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