Money market mutual funds are a type of mutual fund that invests in high quality, short-term debt instruments including government securities, certificates of deposit, asset-backed commercial paper and other highly liquid securities short term corporate debt. Like all mutual funds, money market mutual fund portfolios are professionally managed and a management fee is charged against fund assets to cover this expense. Money market mutual funds are highly liquid and have historically earned a slightly higher interest rate than comparable savings investment vehicles such as bank savings accounts.
Given that these funds invest in high quality, short-term investments where the average maturity of securities in their portfolio are less than one year and are often investments in securities backed by U.S government, money market mutual funds offer market based rates and can be swift to react to changing conditions. Within the spectrum of mutual fund investing, money market funds entail the least risk, as well as lower rates of return. A money market fund is required by law to invest in low-risk securities to maintain a stable value and insure liquidity. Money market mutual funds try to preserve their value and are considered to be highly liquid, cash equivalent investments.
Money market mutual funds are operated primarily by brokerage companies and mutual funds groups which sell shares in these funds to a wide variety of individual, corporate, and institutional investors. Money market mutual funds can be purchased directly from investment companies or with the assistance of financial advisors. The minimum initial deposit is set by individual investment firms and can range from $250 to $25,000. Money market mutual funds often allow the account holders to write checks against their balances. Some funds will charge for this service and there maybe limits to the amount of checks that can be written.
Since money market mutual funds are mutual funds that invest in an assortment of short-term debt instruments, they provide the implicit benefit of pooled investments. The money market mutual fund investors are participating in a more diverse and higher quality portfolio than they otherwise could accomplish individually. Similar to other mutual funds, each investor who invests in a money fund is a shareholder of the investment pool.
Money market funds are similar to bank savings account with comparable levels of liquidity and market based interest rate returns. Money market mutual funds should not be confused with money market deposit accounts or other FDIC insured bank products. The names of some of the products may be similar, but they are completely different investment products. A money market fund is a type of mutual fund. It is not guaranteed or FDIC insured. When you buy shares in a money market fund, you should receive a prospectus. In fact, many banks now sell mutual funds, some of which carry the bank’s name. Money market mutual funds sold in banks are not bank deposits. As a result, the Federal Deposit Insurance Corporation (FDIC) does not federally insure them. A money market deposit account is a bank deposit. It is guaranteed and FDIC insured. When you deposit money in a money market deposit account, you should receive a Truth in Savings form. Mutual funds are not guaranteed or insured by the FDIC.
The return from a money market mutual fund comes in the form of a dividend. The manner in which they pay interest reinforces there similarity to bank products and money market deposit accounts. In fact for some investors, money market mutual funds are very similar to a bank certificate of deposit. The advantage of a money market mutual fund is that it is completely liquid. Unlike a bank CD, which will lock up your money for a period of three months or significantly longer if you can sell your shares in a money fund at any time. They also often offer perks like the ability to write checks against the principal. The advantage of a bank CD is that your deposit is completely insured by the federal government as long as the deposit amount stays within the FDIC insurance limits.
Investors use money market funds for a variety of reasons. One of the primary benefits of money market funds is that they offer safety, liquidity and desirable yields. The safety component is threefold. First, money market funds are highly regulated and must invest the money held for their investors in short term dollar denominated debt securities or money market instruments that are of exceedingly high quality. Second, money market mutual funds must invest in securities that are government issued or have top tier rating by one of the national rating companies. Lastly, the regulations further stipulate that the money market fund cannot overweight their investments by placing a significant portion of the funds money in one type of security.
Money market instruments, by definition, are short-term investments that generally mature in less than a year and have an active secondary market in which they can be resold. Money market funds provide a fairly significant level of stability as they are managed to maintain a constant $1.00 net asset value (NAV) per share, and they have an average portfolio maturity of 90 days or less.
Money market funds are also considered very liquid investments. Like other mutual funds, money market fund shares can be bought or sold at any time. This means you can take money out of your account on relatively short notice. There is also no penalty for taking money out of your money market fund, unlike banking instruments such as certificates of deposit that can impose fees for early withdrawals. Money market funds also often provide check writing privileges for the accountholders. The accountholder can write checks from the account, or make transfers to your bank account electronically or by mail. Because of the liquidity, many people use the money market mutual fund as the savings place for their emergency funds, which are generally three to six months worth of income. An added value that can make money market funds desirable is they don’t require a high minimum deposit. The low minimum deposit requirement makes them a great source of savings for emergency funds as well as the start of a diversified investment strategy.
Some investors use money market funds as a temporary parking place for cash between investments because the money funds yields are typically competitive with those of most savings accounts. Most investors who put cash in money funds use them as part of their overall investment strategy or as a savings account alternative. For example, some people equate money funds to the higher yielding substitute of savings accounts offered at banks and thrifts. A number of investors use money market funds to hold cash between investments because their yield is competitive with many savings accounts. These investors keep some cash in money funds because they know the principal is safe and they can withdraw their money at any time and reallocate the funds to other investments as the markets change and fluctuate. When the market opportunity does change they may place the bulk of their investment money in other types of mutual funds for long-term growth.
Because money market mutual funds invest in many government-backed securities including local municipal debt obligations, investors may enjoy some tax benefits on the returns provided by a money market fund. For those in higher tax brackets, municipal money market funds can provide state and federal tax-free income. The combination of returns, safety and liquidity makes money market funds an ideal place for an investor to park a large chunk of money on a short-term basis-such as when she’s researching a new investment.
Money market funds are most appropriate for short-term investment and savings goals or in situations where you seek to preserve the value of your investment while still earning income. In general, money market funds are useful as part of a diversified personal financial program that includes long-term investments.
Money funds provide the benefit of pooled investments, as investors can participate in a more diverse and high-quality portfolio than they otherwise could individually. And like other mutual funds, each investor buys into a money fund is considered a shareholder of the investment pool, a part-owner of the fund.