Should I Build Out My Emergency Fund or Invest First?
Managing your finances is no easy feat. With the endless information available and a lack of personal accountability, it can be overwhelming to figure out exactly where to start. Since the onset of the global pandemic, there’s been a surge of millennials and Gen Z jumping into the financial markets like stocks and cryptocurrency.
On one hand, it’s exciting to see younger generations realize the importance of beating inflation and growing their money over time. But on the other hand, I see far too many rushing into markets they don’t fully understand. Often influenced by others, they take on risks they’re not prepared for, chasing the elusive dream of "getting rich quickly." The truth is, this rarely works. Success in investing is built on strategy, patience, and preparation—not gambling.
Having been an investor in the stock market for over five years with consistent positive returns averaging 36% ROI, I’ve made it my mission to empower women to live more meaningful, abundant lives by teaching them how to make their money work for them. This means gaining confidence in their financial decisions and avoiding common pitfalls.
A question I often get asked as a holistic wealth coach is: “Should I focus on building my emergency fund first, or should I start investing?” My answer? It depends. Here are three essential factors to consider before diving into the stock market or any financial investment.
1. Build a Solid Emergency Fund First
Before you think about investing, ask yourself: Do I have an emergency fund?
Here’s why this matters. While the stock market has historically outperformed itself over the past century—even through its highs and lows—anything can happen. Even the best investors experience losses, and you need to be prepared for the unexpected.
What Is an Emergency Fund?
Your emergency fund isn’t your retirement account or your vacation savings. It’s a safety net for unexpected expenses like medical bills, car repairs, or job loss. Financial experts typically recommend having 3-6 months’ worth of living expenses saved. This should cover essential costs like rent, groceries, utilities, and other necessities.
However, the exact amount depends on your financial situation. If you’re a homeowner, you may want to save more to account for maintenance and repairs. If you’re living with your parents and don’t pay rent, your savings goal might look different. The key is to tailor your emergency fund to your lifestyle needs.
Keep It Updated
As your income grows, so might your expenses—a phenomenon known as "lifestyle creep." To stay ahead, regularly review and update your emergency fund. This ensures it remains sufficient to cover your current living expenses. For example, if you receive a raise or take on new financial responsibilities, top up your emergency fund accordingly.
Why It’s Non-Negotiable
Without an emergency fund, you risk dipping into your investments during tough times. This not only jeopardizes your long-term financial goals but also reduces the potential growth of your assets. Remember, your emergency fund is your first line of defense, allowing your investments to grow uninterrupted.
2. Address Your Debt Situation
Before investing, it’s crucial to evaluate your debts. Ask yourself: Do I owe money, and at what interest rates?
Focus on High-Interest Debt First
If you have high-interest debt, like credit card debt, it’s likely earning more interest than your investments could. For instance, credit cards often carry interest rates between 15-25%, while the average return on stock market investments is 7-10% annually. If you’re paying more in interest than you’re earning, your debt effectively cancels out your investment gains.
Low-Interest Debt: A Case-by-Case Decision
Not all debt is created equal. Low-interest debts, like student loans or car loans (typically 3-8% interest), might be manageable while investing. However, if you have multiple low-interest debts, their combined impact could still hinder your financial growth. Crunch the numbers to see if paying them down first makes more sense.
The Mortgage Exception
One exception is mortgage debt, as your home is an asset that appreciates over time. As long as you can comfortably make payments, it’s generally acceptable to invest while carrying a mortgage. The key is to eliminate any "bad debt" (high-interest or unnecessary loans) before entering the investment game.
3. Evaluate Your Mindset and Emotional Readiness
Investing isn’t just about numbers—it’s also about mental and emotional preparation.
The Stock Market: A Psychological Game
The stock market is often compared to a casino because it can feel like gambling, especially for those who aren’t ready. Its volatility can trigger fear, greed, and irrational decision-making, leading to costly mistakes. Many people panic when their portfolios dip, selling their stocks too early and missing out on long-term growth.
For example, my own portfolio recently dropped 10%, which equates to thousands of dollars. But because I trust the market’s long-term performance, I stay calm and avoid making rash decisions. If you’re prone to emotional reactions, consider starting with a practice trading account. Many brokerage platforms offer demo accounts where you can "invest" pretend money and observe how your decisions play out over time.
The Importance of a Growth Mindset
Fear of losing money often stems from a scarcity mindset, where you view money as finite and hard to come by. This mindset can lead to impulsive decisions, like pulling out investments at the first sign of trouble. To combat this, focus on building a positive relationship with money through practices like journaling, meditation, or Emotional Freedom Technique (EFT) tapping. These tools can help you develop emotional stability and confidence in your financial journey.
Don’t Invest What You Can’t Afford to Lose
Only invest money that you’re willing to part with. If the thought of losing even a small amount of money fills you with anxiety, it may be a sign to strengthen your financial foundation or work on your money mindset first.
Why Preparation Is Key
Investing is a long-term commitment. It requires patience, strategy, and a solid financial foundation. If you frequently dip into your savings or investments for emergencies, it’s a sign that you need to focus on building stability first.
By ensuring your emergency fund is intact, addressing your debts, and cultivating the right mindset, you set yourself up for success in the unpredictable world of investing.
The Three Must-Haves Before You Invest
To recap, here are the three main factors to consider before investing:
Build an emergency fund with at least 3-6 months of living expenses.
Pay off high-interest debt and manage other financial obligations wisely.
Prepare mentally and emotionally for the ups and downs of the market.
While the best time to start investing was yesterday, there’s no need to rush. Taking the time to establish a strong financial foundation ensures that when you do invest, you’re doing so from a place of confidence and stability.
Whatever you decide, know that every step you take toward financial growth is worth celebrating. Whether it’s saving, paying off debt, or investing, you’re taking control of your financial future—and that’s something to be proud of.
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