Money market funds are a good place to keep your cash while earning interest. Bank checking and savings accounts and money market accounts are good alternatives for your cash.
But money market funds offer a higher rate of return than these other short-term investments.
One example of a good money market fund is the Vanguard Prime Money Market Fund. This fund has a current yield of 1.69%. That is way more than any checking and savings account are offering.
Money market funds are considered very safe. However, they are not FDIC insured. If the lack of FDIC insurance concerns you, you may wish to invest in online savings accounts, money market accounts, or certificate of deposits (CDs).
In this article, we will define what a money market fund is. We will list the cons and pros of money market funds. We will address the main situations you will need these type of funds. Finally, we will list the best money market funds to choose from.
What are money market funds?
Money market funds are a type of mutual funds. They were launched in 1975 as a way to provide investors quick liquidity to their cash, provide current income and protect the investors’ principal.
Since then, they have become extremely popular. Unlike other mutual funds which focus on other securities such as stocks and bonds, they invest in “money market” securities.
Large companies and corporations, financial institutions and the U.S. government borrow money by issuing “money market” securities as promises to repay the debts.
For instance, the U.S. government borrows money by selling bonds or Treasury bills or notes. Banks borrow money by selling certificate of deposit (CDs).
Big companies borrow money by issuing IOUs called commercial paper. These money market securities make up the money market fund.
Mutual fund and investment companies such as Vanguard and Fidelity offer these investments. They are low risk and they provide high yield.
Some funds are intended for retail investors. Retail investors are natural investors like you and me.
On the other hand, there are funds that are intended for institutional investors. Those funds usually require high minimum investments.
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Money Market funds vs. Money Market Accounts
The names may sound the same. But, they are two different types of investments.
To recap, a money market fund is a type of mutual fund. A mutual fund company such as Vanguard or Fidelity offers this type of investment. These funds invest in short-term debt. They offer higher returns than money market accounts.
On the other hand, a money market account is a type of savings account. Banks offer them.
But the rates of return are typically higher than that of a typical savings account. Unlike money market funds, they are insured by the FDIC.
Money market fund advantages:
Money market funds are one of the best and safest places to invest your hard-earned money. You will earn more interest than in a regular savings or checking account. Here are some of the advantages of money market funds.
They are very safe. Money market funds are not FDIC insured, like savings accounts and CDs are. But, they are very safe.
Since they were launched, only 2 out of hundreds have run into trouble. If you concerned about the lack of insurance, you may wish to consider an online savings account or a money market account.
They are liquid and easily accessible. Another advantage of money market funds is that you have immediate access to your money.
You may withdraw your money anytime you wish without incurring penalty. Also, you can cash in your shares by phone, online, by mail or through your broker with relative ease.
You may write checks. Another positive aspect of a money market fund is that you can tap your money by writing checks against your account with no charge.
And some funds allow you to write checks for any amount for free.
They provide higher yields. Money market funds pay higher yields than a traditional savings account.
The reason is because the borrowers, i.e., the US government and big corporations are solid institutions and they agree to repay the debts at high interest rates.
Tax advantages. Some funds invest in securities where the interests are exempt from federal taxes, and in some cases state income taxes.
All of these factors make money market funds popular with people who want to invest for their short term goals.
While there several pros to investing in money market funds, there are some cons as well.
Lower return. Because access to your money are relatively easy in a money market fund, they have lower returns than other investments such as stocks, bonds and index fund.
They are not FDIC insured. As mentioned earlier, the federal government does not insure money market funds .
Other investments such as online savings accounts, money market accounts, certificate of deposits are. But again they are very safe.
However, if the lack of FDIC insurance bothers you, stick with bigger mutual fund companies.
Situations when investing in money market funds makes sense?
You have a short-term investment goal. You may want to invest in money market funds for short-term goals.
You’re saving for a rainy day. If you’re saving for an emergency fund, a money market fund is also a good place to park your cash.
You certainly don’t want to invest in the stock market, because you can lose money within a relatively short period of time due to market volatility.
You want to diversify your portfolio. Money market funds are not aggressive investments such as stocks or bonds.
That’s why these funds are safer and very conservative. When the stock market plunges, these funds can balance your portfolio out.
So, you can use this type of investment as a complement to your other and riskier investments.
The best Vanguard money market funds:
1. The Vanguard Prime Money Market Fund (VMMXX).
This Vanguard Prime Money Market Fund is perhaps one of the best out there.
However, this fund requires a minimum deposit of $3,000 just to open an account. This can be steep for a beginner investor with little money. The expense ratio is 0.16%.
There is no purchase or redemption fees. The fund has a total asset of $127.5 billion as of January 2020.
The Vanguard Prime Money Market primarily invests in foreign bonds, U.S. treasury bills, and U.S Government obligations.
2. The Vanguard Treasury Money Market Fund (VUSXX).
As the name suggests, this Vanguard money fund only invests in U.S. Treasury bills. However, the fund has a minimum initial investment of $50,000.
It may be out reach for beginner investors with little money. But the expense ratio is 0.09%.
The current yield is 1.58% while the 10 year yield is 0.55%. If you are a wealthy investor, you should consider this fund.
3. The Vanguard Federal Money Market Fund (VMFXX).
This Vanguard money fund is perhaps the safest and most conservative of all funds, simply because they invest in U.S. government securities.
U.S. guaranteed securities are considered risk-free investments. It intends to provide current income while maintaining liquidity.
This Vanguard fund requires a $3,000 initial minimum investments. It has a 0.11% expense ratio.
The current yield is 1.58% and a 10 year yield of 0.55%.
So, if you have a short term goal and are interested in a Vanguard fund that invests in U.S government securities, you may wish to consider this fund.
4. Vanguard Municipal Money Market Fund.
This Vanguard fund invests in short-term, high quality municipal securities.
What makes this fund a great one is that it provides income that is exempt from federal personal income taxes.
If you are in a higher tax bracket and are looking for a competitive tax-free yield, you should consider this fund.
Similar to other funds, the initial minimum investment is $3,000 with a 0.15%. This fund has a current yield of 1.20% and a 10 year yield of 0.44%.
Overall, you should consider investing in these Vanguard money market funds, because they generally pay you better than bank savings accounts and money market accounts.
But the FDIC does not insure you. However, they are very safe. If the lack of FDIC insurance does not bother you, you should try them.
Decide whether investing in money market fund is best for you
While a money market fund may sound great, it’s not for everyone. It won’t help those with a long term investment strategy, such as retirement.
For those with a long term focus, investing in individual stocks, real estate, or index funds may be an option instead.
Moreover, younger and aggressive investors should keep less money in money market funds than older investors who are approaching retirement.
However, if you’re looking to make a purchase soon (in the next year or so), such as buying a home, money market funds make sense.
In addition, investors who want to diversify their portfolio may find that money market funds are great investments as they are very safe when compared to risky alternatives such as stocks and bonds.
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