If you have some money - lets say 20k USD. Banks such as Ally provide 2.2% interest rate on Fixed deposits. Is investing in bond funds such as VBTLX safe and better than fixed deposit?
Understand that if we are young we should consider investing on index based funds such as VTSAX. Question is what to do with the rest of the money after investing on index funds?
Can the money invested in funds be used for emergency withdrawal?
You still have interest rate and default risk, even though the portfolio of the fund is very conservative.
Imo this is not stable enough to put emergency fund in it, unless you are willing to accept that your emergency may come up at the time the price of the fund is low (From the price history, it could be about 5~8% off the peak).
Instead of messing with this to squeeze a little extra yield. Just put more in index if you have more cash than an emergency fund is needed.
Part of the answer to your question has to do with an aspect of bonds and bond funds, called "duration".
For a single bond, you understand the time to maturity, the date the bond returns its principal and you have your initial investment back. But. Along the way, you get money from the semi-annual interest payments. Loosely speaking, you can think of duration as the time-weighted average to get your money back taking the payments into account. A zero-coupon bond's duration is equal to its time to maturity. A bond with a high coupon will have a duration much lower than its maturity.
That said, the fund you cited has an average maturity of 8.2 years, and an average duration of 6.0 years. Why is this important? Duration tells us how the bond (or bond fund) reacts to changes in interest rates. A change of rates of .1% will cause a price change close to .6%. (In effect .1 * 6 is how that's calculated) Therefore, the extra yield you seek is traded for the extra risk in a way that's 100% quantifiable.
My goal is not to talk you out of doing this, only to help you understand one of the fundamental issues of investing, risk vs reward. Even the risk averse member who has money in FDIC insured banks as cash might have close to 100% 'safety' in theory, but still carries the risk of inflation, for example.
The second fund you cite is a total market index. Not suitable, in my opinion, for the emergency account. See other posts here for the emergency account discussion.
The term index fund just means it is a fund that tries to match an index. You can have index funds that match broad indexes, narrow indexes, single country indexes, international indexes, stock indexes, bond indexes...
Understand that if we are young we should consider investing on index based funds such as VTSAX. Question is what to do with the rest of the money after investing on index funds?
Can the money invested in funds be used for emergency withdrawal?
The advice is that when you are young you can take more risks so a majority of your investments should be in stocks. How to decide index vs active, large-cap vs small-cap, US vs international takes longer to explain.
Emergency funds need to be safe. So you don't want to risk losing a chunk of value when you need it. Therefore most keep it in an FDIC account or a money market account with their investment company. What I have been doing for a while is investing directly in US government t-bills.
The risk to all of these is inflation, but I have decided that loss is the cost of insuring I will have the money.
You also want to have the funds semi-liquid. Too liquid and you might be tempting to spend it for something that isn't an emergency. Many people count on the fact that they can survive for a while on their credit cards, and then tap the emergency funds when the bill is due. That means money in a bank account will be liquid enough. Money in a CD can also work because most can be cashed in early by sacrificing some of the interest earned as a penalty. Money market accounts can be cashed in a few days notice. If the emergency funds are in a 4-week t-bill then you may have to wait a month, but that is what credit cards were for. In all these examples you don't have to worry about wondering will the market crash before I can get the funds.
