Investment in money market mutual funds is soaring to new highs as the value of many bonds and stocks has been crushed by the Fed’s relentless interest rate hikes.
The secure and liquid funds can offer returns as high as 5.5 percent – around 10 times higher that of the average savings accounts.
‘They are a little bit more risky, but the risk is low,’ certified financial planner Rachel Burns told DailyMail.com.
Last week alone, retail and institutional investors piled a whopping $42billion into money market funds, according the Investment Company Institute.
While that was a steep uptick, it’s also part of an ongoing trend. Almost $1trillion has been placed in money market funds since last summer, according to the US Federal Reserve.
‘In the past year interest rates have risen dramatically so now you can make a pretty nice income from having cash sitting in a money market fund without much risk,’ said Burns.
Almost $1trillion have been placed in money market funds since last summer
What is a Money Market Fund?
Money market mutual funds are securities offered by companies that invest in safe, high-quality, short-term financial instruments, like Treasury bills, bonds or high-grade corporate debt.
Their yield tends to track movements in the Federal Reserve’s benchmark interest rate, unlike bonds, which have a fixed return that becomes increasingly undesirable in an inflationary environment.
Money market funds are run by all the prominent investment firms, including Vanguard, Fidelity, Charles Schwab and Invesco.
The largest, Vanguard Federal Money Market Fund (VMFXX), invests in cash and short-term securities issued by the US government. Its seven-day yield is 5.27 percent and its minimum investment is $3,000.
Why have Money Market Funds become so popular?
Investors have been pouring money into the funds since the Fed’s aggressive rate hikes commenced last year – the higher rates of borrowing mean investors see greater returns on their own investments.
Traditional savings accounts pay 0.43 percent on average, according to data from the Federal Deposit Insurance Corporation (FDIC).
But figures from Crane Data show the top money market funds are now yielding between 5.4 and 5.5 percent.
And unlike high-yield savings accounts, there are some money market funds that generate tax-free income, depending on what securities the fund is invested in.
What are the risks of investing in a Money Market Fund?
While money market funds are generally considered to be safe, they are not without their risks. Additionally, when inflation comes down, as it has been, money market fund rates will drop.
Since they aren’t bank accounts money funds don’t carry FDIC insurance, but they are regulated by the Securities and Exchange Commission.
While the dangers associated with the funds are limited, there remains the risk of a run – where investors become spooked and scramble to get their money out.
During a short crisis at the onset of the Covid pandemic, money markets were stressed. In March 2020, the Fed stepped in to offer a lending facility supporting the industry in the case of a sudden surge of redemptions by investors.
Since they aren’t bank accounts money funds don’t carry the FDIC insurance that covers deposits of up to $250,000 in high-yield savings accounts, but they are regulated by the Securities and Exchange Commission
In the midst of the 2008 financial crisis it took similar measures.
‘It can happen and it has happened, but it’s very unlikely,’ said Burns. ‘And if it does it’s likely some entity will step in, but of course it’s not guaranteed.’
This year, in March, shortly after the collapse of Silicon Valley Bank and amid the market turmoil, Treasury Secretary Janet L. Yellen said that money market funds were a concern.
‘If there is any place where the vulnerabilities of the system to runs and fire sales have been clear-cut, it is money market funds,’ she said. ‘These funds are widely used by retail and institutional investors for cash management, they provide a close substitute for bank deposits.’