What Are Money Market Funds?

Money market funds are a type of mutual fund that invests in highly-rated, short-term debt securities. They generate income but little, if any, capital appreciation. Money market funds were established in the 1970s to provide a slightly higher-yielding alternative to interest-bearing bank accounts.

Money market investing typically carries a low single-digit return. When compared to stocks or 澳洲幸运5官方开奖结果体彩网:corporate debt issues, the risk to principal is generally quite low. However, investors need to weigh several pros and cons when it comes to 澳洲幸运5官方开奖结果体彩网:money market funds.

Advantages of Money Market Funds

Low Risk and Short Duration

When the stock market is extremely volatile, and investors aren't sure where to invest, the money market can be a safe haven while they decide where to put their money. Why? As stated above, money market funds are less risky than their stock and bond counterparts.

That's because these funds typically invest in low-risk vehicles such as 澳洲幸运5官方开奖结果体彩网:certificates of deposit (CDs), 澳洲幸运5官方开奖结果体彩网:Treasury bills (T-Bills), and short-term 澳洲幸运5官方开奖结果体彩网:commercial paper.

Plus, the short 澳洲幸运5官方开奖结果体彩网:durationsও of th♉ese securities limit a money market fund's sensitivity to interest rate risk.

And even though the money market often generates a low single-digit return for investors, in a volatile or down market,🌸 that can be quite attractive.

Diversification

As with most mutual funds, a money market fund offers instant diversification among a range of securities. Investors don't have to select and invest in various money market securities individually. Diversification is an important safeguard for every portfolio.

Stability and Security

A money market fund is one of the 澳洲幸运5官方开奖结果体彩网:least volatile types of investment available. This characteristic can be useful in offsetting ꦑthe greater volatility of stock and bond investments you may have in your portfolio. In addition, they give you a secure, short-term investment option when no other is feasible.

High Liquidity

Money market funds generally don't invest in securities that trade minuscule volumes or have little following. Rather, they primarily invest in entities and/or securities in fairly high demand (such as T-bills and 澳洲幸运5官方开奖结果体彩网:short-term T-bonds). This means they tend to be very 🐷liquid; inveওstors can buy and sell them with comparative ease.

Contrast this to, say, shares of a 澳洲幸运5官方开奖结果体彩网:small-cap Chinese biotech company. In some cases, those shares may have limited investor interest. This means that ♓getting into and out of s🦄uch an investment could be difficult if the market were in a tailspin.

Potential Tax Efficiency

Investors in money market funds may find that the interest payments from some fund investments are exempt from federal and, pot🐻entially, state income taxes.

Disadvantages of Money Market Funds

Inflation Risk

If an investor is generating a 3% return from their money market fund, but the rate of inflation is humming along at 4%, they are essentially l𝔍osing purchasing power each♚ year.

Expenses Can Take a Toll

When investors are earning only 2% or 3% from a money market fund, even small annual 澳洲幸运5官方开奖结果体彩网:fees can eat up a substantia💃l chunk of the profit. This may make it even more difficult for money m𒅌arket investors to keep pace with infl✃ation.

Dependin💯g on the fund, fees can vary in their negative impact on returns. If, for example, an individual maintains $🐭5,000 in a money market fund that yields 3% annually and is charged $30 in fees, the total return can be impacted quite dramatically.

• $5,000 x 3% = $150 total yield
• $150 - $30 in fees = $120 profit

The $30 in fees represents 20% of the total yield, a large deduction that considerably reduces the final profit. The above amount also does not factor in any 澳洲幸运5官方开奖结果体彩网:tax liabilities that may be generated if the transaction occurs outside of a retirement account.

No Federal Insurance Protection

A money market account opened at a bank is typically insured by the 澳洲幸运5官方ဣ开奖结果体彩网:Federal Deposit Insura💮nce Corporation (FDIC) for up to $250,000 per depositor. However, money market funds are not insured by the FDIC—but the Securities Investor Protection Corporation (SIPC) provides some degree of financial protection for investors.

For instance, if an investor were to maintain a $20,000 money market account with a bank and the bank were to go belly up, the investor would likely be made whole again through this FDIC coverage. On the other hand, if a money market fund were to collapse, the investor could lose some or all of their money because the SIPC only replaces the investments when possible.

The 澳洲幸运5官方开奖结果体彩网:2008 financial crisis took a lot of the shine off the stellar reputation that money market funds had previously enjoyed. A large money market fund 澳洲幸运5官方开奖结果体彩网:broke the buck—its shares fell below $1.00—triggering a run on the whole money market industry. Since then, the industry has worked with the 澳洲ꦚ幸运5官方开奖结果体彩网:Securiไties and Exchange Commission (SEC) to introduce stress tests and other measures to increase resiliency and repair some of the reputational damage.

Risk of Higher Yields

While money market funds generally invest in 澳洲幸运5官方开奖结果体彩网:government securities and other vehicles that are considered safe, fund managers may decide to take some greater risks to obtain higher yields for their iꩵnvestors.

For example, to try to capture another tenth of a percentage point of return, the fund may invest in bonds or commercial paper that carry additional risk. Depending on your investment objectives and time horizon, investing in the highest-yielding money market fund may not alwa🌌ys be the smartest move, given this additional risk.

Remember, the return a fundಌ has posted in a previous year is not necessarily an indication of what it may generate in a future year.

Low Returns Mean Lost Opportunity

Over time, 澳洲幸运5官方开奖结果体彩网:common stocks have returned about 8% to 10% on average (including data from recessionary periods). By investing in a money market fund, which may often yield just 2% or 3% due to the fixed income nature of its investments, an inve💮stor may be missing out on an opportunity for a better rate of return. This can have a tremendous impact on an individual's ability to build wealth over time.

Explain Like I'm Five

A money market fund is 𒅌a fund that invests only in short-term, low risk assets. They often invest in Treasury bonds or short-term loans from very large corporations. Because they are so safe, they also have lower returns.

Money market funds can be a good place to park cash while you are looking for the next big investment opportunity. But the returns usually won't keep up with inflation, so they are not a good long-term investment. And unlike bank accounts, they have no FDIC protection.

The Bottom Line

As with any other🍬 investment, money market funds have pros and cons, which should be considered carefully before buying.

While money market funds aren't ideal for long-term investing due to their low returns and lack of capital appreciation, they offer 澳洲幸运5官方开奖结果体彩网:a stable, secure investment option for indiv🅰iduals looking to invest for the short term.

The comments, opinions, and analyses expressed on Investopedia are for informational purposes online. Read our 澳洲幸运5官方开奖结果体彩网:warranty and liability disclaimer for more info.