Money market funds 101: Your complete guide to understanding these low-risk investments
Money market funds are a popular low-risk investment option for those looking to earn a modest return while keeping their principal safe. If you’re new to investing or want a conservative place to park your cash, money market funds deserve a close look. This guide will explain what money market funds are, who they are suitable for, their risks and returns, and how to invest in them.
What are money market funds?
A money market fund is a type of mutual fund that invests in highly liquid, short-term debt instruments such as Treasury bills, commercial paper, certificates of deposit (CDs), and repurchase agreements. The fund’s investments have maturities of one year or less. Money market funds aim to keep their net asset value (NAV) at a stable $1 per share.
Money market funds allow you to earn interest on your cash while enjoying easy liquidity. You can typically invest or withdraw at any time without fees or redemption gates. This makes them a safe place to put your cash as you wait to deploy it elsewhere.
Who are money market funds for?
Money market funds are appropriate for conservative investors who want to earn modest yields without much risk. They can be a good fit if you:
- Have excess cash from an inheritance, home sale, or other windfall
- Keep an emergency fund or cash for short-term goals
- Park funds for a large upcoming purchase like a down payment
- Prefer low-risk investments over stock market volatility
Businesses also use money market funds as a safe place to hold operating cash.
Risks and returns of money market funds
Money market funds have ultralow risk profiles. They are not guaranteed by the FDIC, but they are seen as very safe. The biggest risk is the remote possibility that the fund’s share price could dip below $1 if investments default. This last occurred during the 2008 financial crisis when the Reserve Primary Fund “broke the buck.”
Money market funds pay modest yields. Over the past decade, their average annual returns have hovered between 0% and 2%. That’s much lower than stock returns but higher than a regular savings account. When short-term rates rise, money market yields also increase.
How to invest in money market funds
You have a few options for investing in money market funds:
- Workplace retirement plans often have a money market investment option. You can direct some of your contributions here if you want a cash allocation.
- Brokerage firms like Fidelity and Vanguard offer money market mutual funds that you can purchase through a standard or IRA account.
- Banks sell money market deposit accounts, which are FDIC-insured savings products with check-writing privileges. However, MMA yields are lower than true money market funds.
Look at factors like minimum investments, fees, and historical returns when choosing a specific money market fund. Leading providers like Fidelity and Vanguard offer very competitive options.
The Bottom Line
Money market funds offer a blend of high liquidity, ultralow risk, and modest yields. Keep them in mind if you have excess cash and want a safe place to invest it for the short term. They can play an important role in a conservative portfolio.
