Money market funds are extremely safe mutual funds that hold short-term, highly liquid investments. They aim to conserve your cash, generate income, and provide you easy access to cash. As a result, money market funds are a popular choice for many investors to park their cash in. Brokerages often create or offer money market funds uniquely available through their platform.
In this article, let’s walk through the basics of money market funds, walk through the different brokerage options, and how to start buying them.
Summary:
- Money market funds aren’t meant to outperform the stock market or offer high returns.
- Money market funds are a great alternative to keeping your cash in your savings account.
- Research and identify the specific money market fund(s) you want to buy. Look for funds with strong performance histories, good customer service, and low fees.
- Open an investment account with a brokerage to buy the money market funds easily.
What Are Money Market Funds and How Do They Work?
Money market funds are designed to provide higher yields than most bank products like savings accounts. Money market funds invest in short-term, high-quality cash-like equivalents, such as short-term U.S. Treasury bills. Prime money market funds, which are slightly riskier than government money market funds that only hold government-backed and issued assets, may also hold short-term debt issued by banks.
Money market funds work by pooling money from multiple investors to purchase these assets. Investors like you and me contribute money by buying shares of money market funds. The managers of the money market funds distribute this pooled money into various short-term, high-quality assets. These assets will generate interest, and be reinvested into the fund or distributed to the shareholders.
Who Are Money Market Funds Good For?
Money market funds can be a good starting point for someone new to investing and who wants to dip their toes in without taking on too much risk. Here are some use cases for money market funds:
- Beginners: If you’re new to investing, these funds offer a low-risk way to start.
- Conservative Investors: Risk-averse investors who want to preserve capital while earning some return will find these funds a good fit.
- Emergency Funds: Due to their liquidity and stability, they are an excellent vehicle for an emergency fund that you may need to access quickly.
- Short-Term Goals: If you have short-term financial goals, such as buying a car, saving for a wedding, or going on a vacation, these funds can be a good place to park your money.
- Cash Management: Those with significant sums of cash who are on the sidelines waiting for future investment opportunities.
- Portfolio Diversification: If you already have a diversified portfolio with higher-risk investments, adding a money market fund can bring balance and lower the overall risk.
- Retirees: Those in retirement may appreciate the low risk and steady income, particularly if they’re dependent on their investments for daily expenses.
Types of Money Market Funds
There are a few primary types of market money funds. The fund types are based on the type of assets they invest in, duration, and other characteristics. Here’s a table that breaks down the types of money market funds and the asset requirements, as dictated by the SEC:
| Money Market Fund Type | Instruments Held |
|---|---|
| Government | |
| U.S. Treasury Only |
• Cash and U.S. Treasury securities: 99.5% minimum
• U.S. Treasury securities: 80% minimum |
| Treasury |
• Cash, U.S. Treasury securities, and repurchase agreements backed by U.S. Treasury securities: 99.5% minimum
• U.S. Treasury securities and repurchase agreements: 80% minimum |
| Government |
• Cash, U.S. Treasury securities, and fully collateralized repurchase agreements: 99.5% minimum
• U.S. Treasury securities and repurchase agreements: 80% minimum |
| Prime (General Purpose) | • Diverse assets including commercial paper, certificates of deposit, and corporate notes, as regulated by the U.S. SEC. |
| Municipal | |
| National |
• Municipal securities: 80% minimum • Interest usually exempt from federal income tax. |
| State |
• Municipal securities: 80% minimum • Interest usually exempt from federal and state income tax. |
What Type of Money Market Fund Is Good For You?
If you’re focused on safety and want to preserve your capital, a government money market fund is ideal. These funds are the most conservative, and offer one of the best places to park cash for an emergency fund.
Investors willing to take on more risk for higher returns can explore prime money market funds. In addition to holding super conservative Treasuries, prime money market funds expand to holding financial instruments like commercial paper and corporate notes.
Depending on what state you live, municipal money market funds may offer the best after-tax yield. These funds provide tax-exempt interest based on state of residence.
Are Money Market Funds Safe?
Money market funds are considered extremely low-risk investments and are subject to strict regulation by the SEC. Despite not being insured by the FDIC, money market funds primarily hold assets like U.S. Treasury bills, which are considered some of the safest investments in the world due to the direct backing of the U.S. government.
The SEC requires these funds to maintain a stable net asset value (NAV) of $1 per share. NAV is the per-share price, which the fund manager tries to keep at $1, although that’s not always guaranteed. If the NAV drops below $1, this is known as “breaking the buck”.
“Low-risk” does not mean “no-risk.” While instances are rare, money market funds can lose value, and there is the possibility of being unable to maintain the $1 NAV. Therefore, while they are an extremely safe investment choice, they are not entirely without risk. However, we don’t lose sleep over this.
Are Money Market Accounts the Same as Money Market Funds?
No. A money market mutual fund account is a type of mutual fund investment, not a savings or checking account. Money market accounts are bank products that pay interest on cash deposits.
Where to Buy Money Market Funds
All major brokerages provide money market funds for purchase. Although some money market funds are available across multiple brokerages, most will offer exclusive funds that can only be accessed through their specific platform.
Fidelity offers some of the most popular money market funds. Its most popular money market fund is the government fund SPAXX (Fidelity Government Money Market Fund) manage $300 billion in assets. In addition, Fidelity treats its money market funds as cash. Uninvested cash is automatically invested in SPAXX, and also instantly liquidated for any of your immediate cash needs.
Vanguard is another popular money market fund manager. Vanguard’s money market funds are famous for their low expense ratios. Vanguard also offers a sweep function, with uninvested cash automatically invested in VMFXX (Vanguard Federal Money Market Fund), Vanguard’s default settlement fund.
Charles Schwab provides multiple money market fund options for its customers, including government and Treasury funds such as SNVXX, SNOXX, and SNSXX. These government fund offerings are comparable to Fidelity’s SPAXX and Vanguard’s VMFXX. Unfortunately, Schwab offers no sweep feature.
Merrill Edge does not provide its own money market funds. Instead, it offers funds managed by renowned firms like BlackRock and Fidelity. Uniquely, Merrill Edge provides access to institutional funds with no minimum investment requirement, diverging from the typical high minimums that can start at $100,000 or even $1,000,000.
E*Trade does something similar to Merrill Edge, offering money market funds from other fund managers. The most popular E*Trade government money market funds are its Vanguard money market funds.
Should I Buy Money Market Funds?
Consider investing in money market funds if you seek low-risk income from cash, liquidity, and higher yields than savings accounts. Money market funds offer a relatively stable return compared to other types of investments. With low to no minimum investment on most brokerages, money market funds provide a low barrier to start earning income from your cash.
