There are many reasons that you should have an Emergency Fund - a stash of 3-6 months of readily accessible cash kept in something like a high interest savings account or similar account.
- You are protected for a time if you lose your current job or other source of income.
- You can help friends or family if they need assistance.
- It helps you pay off (and stay out of) debt.
- It gives you the chance total advantage of surprise opportunities.
- You can maintain your lifestyle in case of a medical emergency.
- Ensures you don’t touch your investments so they can keep growing.
- You are able to cover unanticipated expenses.
Obviously, any of these reasons on their own should be more than enough to convince you that you should have an emergency fund of your own.
But there is another reason that is relevant for anyone that invests, is especially important for traders to understand and is crucial for those on the journey to financial independence:
Being a successful trader is all about mindset. Some would even argue that it doesn’t matter too much what strategies, instruments, timeframes, etc you trade as long as you have a solid mindset.
Ok, that’s all great, but what does that have to do with financial independence, investing and an emergency fund?
Financial independence and investing are all about finding ways for your money to make money for you. In order to do this successfully we need to allow for that money to flow freely and take advantage of opportunities that present themselves. Think about it, it’s called currency right? In order to reach its full potential it should be flowing like a current.
Now people that don’t have some sort of emergency fund have a very hard time allowing their money to flow in this way. They tend to cling to their money in fear, with a scarcity mindset. And I can’t blame them, they have no way to deal with any of the scenarios in the above list and they may even be in a state of not knowing if they’ll be able to cover their regular expenses each month.
When someone is living paycheck to paycheck, without any sort of buffer in their finances, they are constantly activating a part of the brain called the amygdala. The amygdala is in charge of our emotions, fear, memory and decision making. It wants to keep us safe, it wants to avoid risks and anything unknown.
If you are living in constant fear of being able to pay your bills or cover an emergency, your amygdala is going to be running the show. You wont be able to take a step back and make rational decisions about your future and see the bigger picture.
If your brain is constantly trying to avoid risk, you wont be able to trade or invest in any way, because risk is an inherent part of investing and trading. And you wont ever reach financial independence because you can’t get there without investing in some way.
So the first step to getting out of this place is to calm down your brain and improve your mindset. You want to move from scarcity mindset where there is never enough, to an abundance mindset where you begin to realize that there is opportunity all around.
The number one way to start shifting this mindset is to begin working on your emergency fund. Figure out what your expenses are for 1 month, and start there. This should be the absolute minimum, but you will want to increase to 3-6 months living expenses as you are able and depending on your lifestyle, risk tolerance, job security, etc. Someone in a one income household, self employed, with a bunch of kids will want to save more than a single person with a very secure job that is in high demand.
Once you have 3-6 months of living expenses set aside you can really start accelerating your journey through all sorts of investing and speculating methods. With your monkey brain feeling secure you will be in a much better place to make decisions and begin creating a proper mindset. And as we know, mindset is the key to being a successful trader, investor and to reaching financial independence.