When the stock market soars, as it has been recently, money market funds aren’t very interesting. As markets turn south, however, investors might revisit the benefits of these assets.
Don’t confuse a money market mutual fund with a money market account. A money market account is typically offered through a bank; it’s a type of savings account. A money market mutual fund, on the other hand, invests in short-term debt instruments such as Treasury bills. Although the principal in such funds isn’t guaranteed, their net asset value, or NAV, has typically been stable at $1 per share, leaving them on the conservative end of the risk/reward spectrum.
Because interest rates on short-term government debt are very low, money market funds aren’t yielding very much. That said, their purpose really isn’t to earn gobs of money. Rather, the purpose is to provide a relatively safe but also liquid place to put cash. When investors don’t feel as much of a need for safety, or when short-term interest rates are very low, money market mutual funds can become less popular.
“With investors flooding out of safe bank accounts and other safe investments in order to speculate in the financial markets, money market funds are currently as out of favor as beehive haircuts or bell-bottom trousers,” says Steven Jon Kaplan, CEO with True Contrarian Investments. “This could change dramatically in the future if massive U.S. budget deficits eventually lead to much higher interest rates and rising inflationary expectations.”
The Benefits of Money Market Mutual Funds
Money market mutual funds are relatively safe from price volatility and typically covered by SIPC insurance through the investment firm. Although the $1 a share value isn’t guaranteed, it has rarely deviated from that amount.
The liquidity and safety offered by money market mutual funds can offer a good place for investors to stash emergency cash for times when the market experiences severe pullbacks, like in the first quarter of last year amid the pandemic.
Still, money market funds aren’t a place for an investor to put money they might be saving for a down payment on a home or college tuition. Money for those longer-term goals should not be in the stock market.
Money market mutual funds are more appropriate for short- and intermediate-term goals, and they can offer stepping stones to more expensive investments.
Steve Azoury, founder at Azoury Financial, touts that the expense ratios are low, especially in the Vanguard money market funds. If you lack the required minimum to purchase another fund, money market funds are an excellent place to park your cash, earn interest and accumulate enough money to buy the higher-minimum fund, he says.
The low-fee stability of Vanguard money market funds offers a cash alternative for many retail investors. Some of its money market funds are taxable, while others are tax-exempt.
The Risks of Money Market Mutual Funds
As with other conservative investments, the main risk in owning money market mutual funds is one of opportunity cost. That is, when the market is moving higher, money stuck in these types of funds will likely earn far less than riskier types of assets.
At the moment, the yield on Vanguard’s money market funds are very low, so low that the company has taken to waiving fees to keep annualized returns at more than zero percent. “I still have confidence that Vanguard’s money market funds are solid choices — well managed, stable NAV — all things you want out of your money market, just there isn’t any yield,” says Jeff DeMaso, director of research with Adviser Investments and editor of The Independent Adviser for Vanguard Investors newsletter.
Jamie Ebersole, CEO at Ebersole Financial, suggests keeping only as much money as needed for near-term liquidity in money market funds or cash and putting other money to work in high-quality, short-term bonds with more attractive yields.
“With interest rates at such low levels, I would really start to focus on those (Vanguard money market funds) with the lowest expense ratios,” Ebersole says. “This will help preserve your capital over the near term until rates perk up.”
Check out the following Vanguard money market mutual funds:
— Vanguard Cash Reserves Federal Money Market Fund Admiral Shares (VMRXX)
— Vanguard Federal Money Market Fund (VMFXX)
— Vanguard Treasury Money Market Fund (VUSXX)
— Vanguard Municipal Money Market Fund (VMSXX)
— Vanguard State-Specific Money Market Funds
1. Vanguard Cash Reserves Federal Money Market Fund Admiral Shares (VMRXX)
With the popular Vanguard Cash Reserves Federal Money Market Fund (VMMXX) closed to new investors, people can turn to a similar taxable Vanguard fund called the Vanguard Cash Reserves Federal Money Market Fund Admiral Shares. The admiral shares fund has a 0.1% expense ratio and had an average one-year return of 0.3% as of Feb. 28, 2021. This fund requires a $3,000 minimum deposit.
2. Vanguard Federal Money Market Fund (VMFXX)
Like VMRXX, this taxable Vanguard money market fund invests in U.S. government securities and seeks to provide current income and preserve principal investment value. It is one of the most conservative investments offered by Vanguard, as U.S. government securities are considered low-risk investments. VMFXX requires a $3,000 minimum investment and has a 0.11% expense ratio. It had an average one-year return of 0.2%.
3. Vanguard Treasury Money Market Fund (VUSXX)
This fund is narrower in focus than the Vanguard Federal Money Market Fund. VUSXX invests mostly in U.S. Treasury securities. As with all money market mutual funds, the returns are dependent upon the current interest rate environment. This fund has a minimum investment of $3,000 and charges a 0.09% expense ratio. It had an average one-year return of 0.22%.
This treasury money market fund is also safer than the previous two, DeMaso says. While the other two taxable money market funds invest mostly in U.S. Treasury bills and other U.S. government obligations, the VUSXX has the most in Treasury bills, which are considered very low-risk investments.
4. Vanguard Municipal Money Market Fund (VMSXX)
This tax-exempt Vanguard money market fund invests in short-term, high-quality municipal securities. It is suitable for investors in higher tax brackets, but it has a higher expense ratio at 0.15%. Still, the fund is yielding more than the previous three funds, with an average one-year return of 0.34%. Like the other Vanguard funds, the investment minimum is $3,000.
5. Vanguard State-Specific Money Market Funds
Vanguard offers federal and state tax-exempt money market funds for California and New York that invest in short-term debt instruments from the specified state.
California residents in high-tax brackets might benefit from this state-specific fund populated with in-state municipal bonds: Vanguard California Municipal Money Market Fund (VCTXX). The $3,000 minimum investment and 0.16% expense ratio are worth considering. It has an average one-year return of 0.25%.
Investors encounter the same minimum investment amount and expense ratio as the California fund with the Vanguard New York Municipal Money Market Fund (VYFXX). The average one-year return of 0.31% is the second-highest of these six Vanguard funds.
“If you’re in a taxable account, there’s no reason not to own a municipal money market fund, even if you are not in a huge tax bracket,” DeMaso says. “You won’t get much income, but at least it’ll be tax-free.”
Vanguard money market mutual funds aren’t yielding much compared with stocks and long-term government debt, but they offer a relatively safe and liquid place to park cash.
If you’re worried that the market may be getting toppy — reaching unsustainable highs — money market funds can be a good place to weather a downturn.
“Vanguard has some of the lowest-cost money market funds in the market and they continue to be a great choice for short-term liquidity and safety,” Ebersole says.
More from U.S. News