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What are money market funds? Examples, pros & cons + more
There are a lot of investment opportunities out there. And sometimes it’s difficult to know which one is the right investment for your needs.
Money market funds—also called money market mutual funds—are a type of mutual fund that invests in short-term, highly liquid, low-risk financial instruments. These investments typically include cash and cash-equivalent securities like bank certificates of deposit and treasury bills.
It’s important to distinguish a money market fund from a money market account because they’re not the same thing. Money market accounts are deposit accounts offered by banks that have insurance protection from the FDIC. Money market funds are investment funds that offer no such insurance.
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Types of money market funds
There are three key types of money market funds to know about.
Prime Money Fund
Prime money market funds—sometimes called general purpose funds—invest in assets not linked to the U.S. Treasury. These include corporate commercial paper, variable-rate debt, and securities offered by US government agencies and other government-sponsored enterprises.
Government Money Fund & Treasury Fund
Government and treasury money funds are composed almost completely of US backed securities.
Based on the 2014 US Securities and Exchange Commission money market fund reform rules, all government money market funds must invest at least 99.5% of the total assets of the fund into government securities, cash, or fully collateralized repurchase agreements.¹
The same rule requires treasury funds to invest 99.5% of the total assets of the fund into US Treasury securities like bonds, bills, and notes.¹
Tax-Exempt Money Fund
Tax-Exempt money funds are somewhat self explanatory in that they’re exempt from federal income tax—and possibly state tax too. These funds are composed primarily of investments in municipal securities, bonds and some other debt securities.
Money market funds: pros & cons
Every investment has it’s advantages and disadvantages, so let’s look at some of the ups and downs in investing in a money market fund.
Benefits of using money market funds
When the market is volatile, your money can sit here
A money market fund is one of the most popular destinations to park large sums of money safely and still get some interest on your investment.
The funds invest in short-term debts, low-risk government securities, certificates of deposit, and treasury bills. Unless something absolutely bad happens to the US government and banking system, then you’ll most likely get a single digit return on your investment.
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High liquidity
For many investments out there, it can be difficult to get out if things are going wrong.
Money market funds invest in government securities like treasury bills that typically always have a demand. They’re backed by the US government after all. If you want to get out of your money market fund, it’s generally very easy to sell the shares and get your cash back quickly.
Many may have low fees
If you’re looking to get in or get out of a money market fund, there are typically low liquidity fees that are regulated by the SEC. This is a huge advantage over many other investments that may charge you to buy in or exit.
Potential risks of money market funds
Inflation can outpace the interest returns
One of the biggest risks with money market funds comes in the form of your purchasing power. This means you can get a return on your investment, but an increase in prices grew more than the interest.
For example, between April 2020 and April 2021, the consumer price index went up 4.2%.² If you invested in a money market fund that netted a 3% return, then you lost purchasing power on your investment.
The fees may be low, but they can eat into low returns
Though money market funds typically have low fees, that doesn’t mean they won’t eat into your returns. You can see here from the math on a $10,000 investment with the same 3% return from above and a $40 fee:
Annual investment return: $10,000 x 3% = $300 Fees: $300 - $40 = $260 in profit |
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In this case, $40 equals a little over 13% of your total profit. And that situation could compound with a loss in purchasing power.
No FDIC insurance
The federal government insures bank accounts—CDs, savings accounts, checking accounts, etc. However, money market mutual funds are investment accounts and are not insured by the FDIC.
With any investment there is—no matter how low—a chance to lose your money, and the FDIC won’t cover the losses.
Where to get a money market fund?
Many of the largest investment firms in the world offer money market funds as part of their portfolio. Vanguard, Charles Schwab, Fidelity, and Wells Fargo are some of the most popular, but there are many, many more.
If you want to invest in a money market fund, speak with a licensed financial professional about what they have to offer and to see if it’s in your best interest for your financial needs.
| 💡 Always consult a licensed, professional financial advisor to see if a money market fund is right for your portfolio. |
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What is a money market fund example?
Vanguard Federal Money Market Fund — VMFXX
A taxable money market fund that requires a $3,000 minimum investment.³ The fund follows the SEC regulation to invest 99.5% of the fund into government securities or government collateralized repurchase agreements.
Fidelity Money Market Fund — SPRXX
This is a non-government money market fund with a no minimum investment that’s still taxable.⁴ It invests a lot in government securities, but a large portion of the fund is invested in financial company commercial paper.
Schwab Value Advantage Money Fund — SNAXX
With a minimum investment of $1 million, it might not be the money market fund for everyone.⁵ But Charles Schwab has been around since the 1970s and is one of the most trusted investment firms in the world.
Vanguard Treasury Money Market Fund — VUSXX
This Vanguard fund also requires a $3,000 minimum, but invests primarily in US treasury securities. A minimum 80% of the fund invests directly in treasury bills over notes or bonds.⁶
Frequently asked questions
Can you lose money in a money market fund?
Yes, you can lose money in a money market fund. Money market mutual funds are investment funds and are completely different from money market accounts. They’re not backed by the FDIC.
Though only two mutual funds have ‘broken the buck’ in history, it is possible to lose your money. No matter how low, investments always have some risk.
Is a Money Market Fund a good investment?
Whether a money market fund is a good investment is up to you and your financial needs. Traditionally, money market funds are safe, low-risk investments for individuals looking to park large sums of money in one place with high liquidity.
Sources:
- US SEC - Money Market Fund Reform FAQ
- US Bureau of Labor Statistics - TED: The Economics Daily May 19, 2021
- Vanguard - Vanguard Federal Money Market Fund
- Fidelity - Fidelity Money Market Fund
- Charles Schwab - Schwab Value Advantage Money Fund
- Vanguard - Vanguard Treasury Money Market Fund
All sources checked on 27 May 2021
*Please see terms of use and product availability for your region or visit Wise fees and pricing for the most up to date pricing and fee information.
This publication is provided for general information purposes and does not constitute legal, tax or other professional advice from Wise Payments Limited or its subsidiaries and its affiliates, and it is not intended as a substitute for obtaining advice from a financial advisor or any other professional.
We make no representations, warranties or guarantees, whether expressed or implied, that the content in the publication is accurate, complete or up to date.
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