Comments on: Another Sunday PF Roundup http://www.joetaxpayer.com/another-sunday-pf-roundup/ Financial Commentary For The Average Joe Mon, 06 Feb 2012 21:56:17 +0000 hourly 1 http://wordpress.org/?v=3.3.1 By: Elle http://www.joetaxpayer.com/another-sunday-pf-roundup/comment-page-1/#comment-17572 Elle Mon, 01 Mar 2010 14:59:06 +0000 http://www.joetaxpayer.com/?p=2623#comment-17572 I think the article title "Using Probability to Set the Size of An Emergency Fund" is misleading. It seems to me the guidance amounts to estimating the probability of an emergency using various rates of return, and then estimating the dollar amount of an emergency. What kind of errors should one attribute to one's estimate of the probability of an emergency? If one computes 1/5 using the approach above, to me 1/2 is not that far away, considering the errors in estimation. Also the three rates of return named by themselves may vary a lot from one year to the next. In other words, a factor of safety (well known in engineering circles, for one) should be used. This is maybe more famously known as a huge "fudge factor," because uncertainties are so large and compound when combined in an algorithm. I think people should continue to plan their EF around their sense of the cost of a worst case scenario. Using a certain number of months of current paycheck makes more sense to me than arriving at a hard number as the alleged algorithm above seems to push. To me, the algorithm is a flimsy disguise for garbage-in, garbage out computation. I think the article title “Using Probability to Set the Size of An Emergency Fund” is misleading. It seems to me the guidance amounts to estimating the probability of an emergency using various rates of return, and then estimating the dollar amount of an emergency. What kind of errors should one attribute to one’s estimate of the probability of an emergency? If one computes 1/5 using the approach above, to me 1/2 is not that far away, considering the errors in estimation. Also the three rates of return named by themselves may vary a lot from one year to the next. In other words, a factor of safety (well known in engineering circles, for one) should be used. This is maybe more famously known as a huge “fudge factor,” because uncertainties are so large and compound when combined in an algorithm.

I think people should continue to plan their EF around their sense of the cost of a worst case scenario. Using a certain number of months of current paycheck makes more sense to me than arriving at a hard number as the alleged algorithm above seems to push. To me, the algorithm is a flimsy disguise for garbage-in, garbage out computation.

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