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 its 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 youll 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 arent 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 Americas Balance Rewards Money market savings accounts highest APY is only 3.05% and thats if you have over two and a half million dollars in your money market savings account. BoAs money market account likely isnt the highest around but its not even within spitting distance of INGs 4.20% rate for nothing (and ING isnt 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 doesnt guarantee my principal.

However, lets say you wanted to take the risk, what are the returns like? Vanguards 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, youre talking 4.69% versus a 4.20% at 100% safe ING Direct. Half a percent isnt 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 dont 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 dont know why anyone would have any funds in a money market deposit account given current high yield interest rates. I also dont know why anyone would put their emergency fund in a mutual fund, money market or otherwise, because of the risk, even if its low, you could lose your principal. Were in a strange place now where high yield online savings accounts are giving such great returns and all these traditional products, like MMDAs, are really not worth it anymore.

Where do you put your emergency savings and why?