Money Market Funds

Money market funds hold more cash assets than any other type of short-term investment security. There must be a reason for their popularity. There is, the reason money flies into money market funds is because they are the most even balance of liquidity, yield, and safety you can find in any kind of cash asset.

Money market funds differ from money market accounts in that they are invested in securities that may be considered temporarily higher-risk than the investment vehicles found in money market accounts. Money market accounts, for example, are often used as a “float fund” in an individual bank, used to finance very short-term loans the bank makes, or to hedge cash reserves should the bank make a large transaction before receiving funds for another bank.

Money market funds often invest in such safehaven assets as US Treasuries, municipal bonds, and occasionally corporate debt, but they address each investment as safely as possible. Where a mutual fund may purchase Treasury bonds, for example, a money market fund is likely to hold Treasury bills, not treasury bonds. The difference is the date to maturity. A Treasury bill is issued for a period of shorter than one year, whereas T-bonds are issued with maturities ranging up to thirty-years.

Keep in mind that the fund manager may buy Treasury bonds that are soon set to mature. A thirty-year Treasury bond with only one year to maturity is effectively a T-bill, after all, as the principle is to be returned at the end of the year. Also, by purchasing “seasoned” municipal and corporate debt, money market funds can attract higher yields without risking significant amounts of investors assets.

The Dollar Standard
Money market funds seek to provide a base value of $1 per share; that is to say that money market funds are not expected to lose money, only appreciate, and unlike mutual funds which may fall below “par value,” or the amount of money invested into the fund, money market funds seek always to provide positive performance for investors.

This isn’t an easy task, as one might imagine. Since only one small default on a corporate bond can erase investor capital, money market funds spread investments around such a wide pool of risk that they can almost mathematically guarantee that the fund will never dip below par value. In only one instance in 2008 did this rule fail to hold true, and plunging assets and failed banks meant that for the first time in history, money market funds failed to keep their dollar par value.

FDIC Protection
Money market funds are the least risky, but highest-yielding investment you can find without FDIC protection. Where Certificates of Deposit and Money Market Accounts are both federally insured, the value of a money market fund is not insured by a single party, and investors do stand risk to lose investment capital. For this reason, most investors would be advised to invest only in money market accounts if they have less than $250,000. However, there are some benefits to money market funds that more sophisticated investors might find to be worth their time:

Individual Asset Investments: Since money market funds are usually sold by financial services companies, they are generally more varied than the classic money market account offered by a banking institution. Usually, investors will be given the opportunity to invest in Treasuries, Municipal bonds, short-term corporate paper, or a combination of each.

The ability to select an investment portfolio allows investors to dial their own specific blend of investment components, and select a fund that matches directly their risk to reward tolerance. However, keep in mind that with each increase in the fund’s return, it is certain there is more risk to be found.

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