What you need to know about money market funds
Money market funds made headlines as investors rushed to pull cash from them amid the US government’s debt ceiling drama that gained momentum in Washington these past few weeks
Recently, assets fell by a net $9.44 billion due to a sharp decline in government taxable funds, leaving total assets in money market funds at $2.65 trillion, as more and more investors saw money market funds as an unsafe investment environment.
With that said, however, fund managers around the globe expect the money to come back into the funds now that a deal to temporarily raise national treasury's debt limit was reached.
According to EPFR Global, more than $20 billion did indeed come back into the money-market funds. They expect these numbers to increase.
It is a relief to say the least, as EPFR Global also said that the outflow of cash from money market funds during the past week was the second biggest outflow since 2007, which sketched a very dim picture for the year ahead.
Moving forward with optimism
Despite of the above, optimistic industry role players like Sean Neethling, credit analyst at independent asset management company RE:CM, believes that money market funds will continue to be popular with local investors.
The basic principles of money market funds remain the same - like the good combination of yield, liquidity and capital preservation they provide. They pool investor funds, and as such provide higher yields than those accessible to individuals through conventional retail banking deposits.
Overall, with holdings spread across banks, government, and shorter dated corporate bonds, money market funds can be seen as a relatively ‘lower' risk investment vehicle than their bond and stock counterparts.
"The truth of the matter is that these funds allow investors greater flexibility from a liquidity perspective because they can be designed to meet clients' liquidity requirements, while portfolio allocation can [and should] be based on client-specific, short term access to cash needs. As such, money market funds can still be seen as the ideal vehicle for investors who want to preserve capital while earning a low risk competitive return, and have overnight access to their money,” he says.
The cons of money market investing
Money market investing does have a negative side, like the fact that they are unlikely to generate real returns for investors as they tend to carry single-digit returns. (But this can still be an attractive investment when the market is down.)
Other smaller and less significant risks than the US government scare that played out during the past few weeks include:
- when the currency that money market funds earn do not keep up with the rising cost of living
- when expenses like annual fees eat up a chunk of the final profit - making it difficult for investors to keep pace with inflation
The effect of recent reforms on money market funds
According to Neethling, the CISCA (Collective Investment Schemes Control Act) introduced in July 2012 have had little effect on money market funds to date. "The rules do allow fund managers to increase the weighted average portfolio maturity to 120 days and invest in individual instruments with a maximum maturity of 13 months. Longer dated instruments provide fund managers with the opportunity to earn higher rates especially with a steeper yield curve, but also carry increased interest rate risk over shorter dated maturities.”
Overall investment climate and behaviour
For this reason, money market funds, especially if the market is expensive, provide a lower risk alternative for investors to park money in the short term. "Ultimately, the primary objective of a money market fund should be to preserve investor capital. While money market funds do not provide any capital growth, the probability of suffering a permanent loss of capital is significantly lower than with other asset classes like fixed income and equity,” explains Neethling.
In the current interest rate environment, fund managers strongly advise investors against buying expensive assets purely for yield without taking the possibility of permanent capital losses into consideration.
Neethling says the opportunity cost of holding cash in a competitive money market fund is currently very low, "as longer dated fixed income investments only provide a marginal pickup over money market rates,” he concludes.
Editor's Thoughts:
While the whole world watches how the US government's debt ceiling debacle is going to turn out in the end, one of the biggest mistakes money market investors can make going forward is to invest on the highest-yielding fund for the pure reason that ‘it's the highest yielding-fund.' The return a fund has posted in a previous year is not necessarily how the fund is going to perform in the coming year. In light of recent developments in the market there are a lot of factors that need to be taken into consideration. Do your homework carefully before you invest your money or your clients money anywhere for that matter. Please comment below, interact with us on Twitter at @fanews_online or email us your thoughts [email protected]
Comments
Social Security, Medicare, Medicaid and all similar government programs have a price tag of $222 trillion dollars. America cannot support these social programs for much longer. Soon, 30 to 40 million Americans will be without their healthcare, without food and without shelter.
In the United States, credit swap derivatives created national debt totals of over one quadrillion dollars - i.e. one thousand trillion dollars. The entire GDP of the planet is estimated at $66 trillion dollars. The debt created by futures speculation is approximately 16 times greater than the sum total of the entire wealth on the planet.
What is happening now is simply smoke and mirrors . . . Report Abuse