Question

T-Mobile 4:25 PM 7 53% Aa Q Problems and Activities These problems are available in My Lab Fi- nance 1. Everyone needs an emergency fund. Assume your best friend asks you to evaluate a list of investments for an emergency savings fund. Comment on the appropriateness of each of the following: a. Certificate of deposit b. Three-month Treasury bills c. Gold and silver coins d. Portfolio of energy stocks e. Money market mutual fund

Answer 1

(a): Certificate of deposit (or CDs) – This is an excellent and highly appropriate instrument for an emergency fund as CDs are virtually risk free. It is a time deposit and is similar to savings accounts and hence besides being risk free enjoys high liquidity as well.

(b): Three month treasury bills – This is perhaps the best instrument for an emergency fund. A 3 month treasury bill has better accessibility when compared to CDs and the level of risk is the lowest in case of T-bills. Also when the bills mature one can easily buy new bills with a high interest rate.

(c ): Gold or silver coins – This is not a very good emergency fund investment options as gold and silver are bullions and hence are subjected to daily change in prices. If the prices fall then your emergency fund will be badly hit. So while liquidity aspect is good the risk levels are high.

(d): Portfolio of energy stocks – This again is not a very good investment option for an emergency fund because stocks are subject to market risks and the market is often unpredictable and subjected to state of economy and the business of the energy companies. Hence risk level and volatility is usually high.

(e): Money market mutual fund – This can be a good option but it is not as good as CDs or three months treasury bills. Money market mutual fund is a type of mutual fund that invests in high-quality, short-term debt instruments, cash, and cash equivalents. So liquidity is very high but debt instruments are susceptible to interest rate changes.

So in order of preference three month treasury bills is the best option, followed by certificate of deposits and then by money market mutual funds. One should try to avoid investing in gold/silver coins and energy stocks for the purpose of an emergency fund.