Searching for Yield? Look at Money Market Funds
Author: Jonathan Harrington
Money market funds are all the rage for investors seeking yield. Last month, the Boston Globe reported that in the last six months investors have dumped $500 billion into money market funds, searching for higher yielding alternatives to traditional checking and savings accounts. Last month’s failure at Silicon Valley Bank also helped accelerate the flight of cash from banks to money market funds.
Money market funds are commonly used as the default cash holding in brokerage or retirement accounts, but there are many misconceptions among investors about these funds. This blog post will explain what money market funds are and how they are different from cash held in a bank account. It will also review FDIC insurance and SIPC protection and explain how each protects bank accounts and money market funds, respectively.
What is a Money Market Fund?
Simply put, a money market fund is an investment vehicle that holds low-risk, short-term securities such as treasury bills, Certificates of Deposit, commercial paper, and repurchase agreements.
The goal of money market funds is to offer a high level of liquidity and earn a better return than cash in a bank account all while maintaining a net asset value (NAV) of $1. These characteristics make money market funds a reasonably low risk investment for money that may be needed in the short term.
Money market funds are often found within brokerage and retirement accounts and are typically used as a holding place for cash that is not invested in other stocks, bonds, ETFs, mutual funds or other securities.
There are several different types of money market funds, with the key difference being the types of securities they invest in. Some of these funds invest solely in government obligations, some invest only in municipal securities which are exempt from federal taxes, while others elect to invest in a wider array of securities. For this reason, there can be a range of yields and risk involved in investing in money market funds. Fidelity, for instance, has over 30 different types of money market funds, all with different yields and underlying holdings.
It’s important to note that although they are generally considered a low-risk investment, there is no guarantee of principal associated with money market funds. We’ll talk about this more as we look at FDIC and SIPC insurance and how both relate to money market funds.
Unlike deposits held in a bank account, money market funds are not covered by FDIC insurance. The FDIC covers only deposits held in FDIC insured banks. These deposit accounts can include checking and savings accounts as well as certificates of deposit and are covered up to $250,000 per person, per bank for each type of account ownership. For example, the same person can have $250,000 of coverage for an individual account and an additional $250,000 of coverage for a jointly held account at the same bank.
Accounts that hold money market funds and other investment vehicles are typically covered by SIPC, which differs from FDIC insurance. SIPC, the Securities Investor Protection Corporation, offers protection of investors’ assets in the event of a failed brokerage firm.
What SIPC covers
SIPC protection covers the loss of securities, up to $500,000 per account (not owner), including stocks, bonds, and mutual funds if a brokerage firm were to fail. It also covers cash that is held at a brokerage firm, limited to $250,000. Some financial institutions provide additional coverage. For instance, Fidelity provides its brokerage customers with total excess of SIPC coverage of $1 billion.
What SIPC does not cover
SIPC does not cover a decline in the value of securities. Normal fluctuations in the market, or even a security becoming worthless, are risks that are exclusively shouldered by investors. SIPC protection only kicks in if a brokerage firm liquidates because of bankruptcy or if securities go missing.
How money market funds are covered
Money market funds fall under the $500,000 SIPC protection for the loss of securities. But keep in mind that SIPC coverage does not offer any protection in the case of a money market fund declining in value. Since money market funds are investment vehicles with underlying holdings primarily in short term debt securities, their value is not guaranteed and can fluctuate if the creditworthiness of the underlying securities comes into question.
Money market funds can be a great savings tool, especially when you have funds that may be needed in the short term, and you want to maximize yield. However, it’s important to be aware of the risks involved and understand how money market funds differ from cash you hold in a bank account. If you are interested in looking at money market funds as an alternative for your cash holdings, please contact us to speak to an advisor. You can also learn about our team here.
Disclaimer/Author(s) Bio: This is not to be considered investment, tax, or financial advice. Please review your personal situation with your tax and/or financial advisor. Jonathan Harrington, CFP®, MSFP, MST is an advisor at Milestone Financial Planning, LLC, a fee-only financial planning firm in Bedford, NH. Milestone works with clients on a long-term, ongoing basis. Our fees are based on the assets that we manage and may include an annual financial planning subscription fee. Clients receive financial planning, tax planning, retirement planning, and investment management services, and have unlimited access to our advisors. We receive no commissions or referral fees. We put our clients’ interests first. If you need assistance with your investments or financial planning, please reach out to one of our fee-only advisors.