A money market mutual fund is a type of fixed income mutual fund that invests in debt securities characterized by their short maturities and minimal credit risk. Money market mutual funds are among the lowest-volatility types of investments; they seek to preserve the value of your investment at $1.00 per share. These funds are not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency, and it is possible to lose money. Income generated by a money market fund can be either taxable or tax-exempt, depending on the types of securities in which the fund invests.
The types of debt securities held by money market mutual funds are required by federal regulation to be very short in maturity and high in credit quality in order to improve their ability to maintain a stable share price even during times of financial market stress. Investments can include short-term U.S. Treasury securities, federal agency notes, Eurodollar deposits, repurchase agreements, certificates of deposit, corporate commercial paper, and obligations of states, cities, or other types of municipal agencies—depending on the focus of the fund.
Types of money market mutual funds
Taxable funds invest in high-quality, U.S. dollar-denominated, short-term money market securities. Income is generally subject to federal and state taxes.
|Fund Type||Primary Types of Instruments Held|
|Treasury Only||U.S. Treasury securities|
|Treasury||U.S. Treasury securities and repurchase agreements * collateralized by U.S. Treasury securities.|
|Governmemt Only||U.S. Treasury securities and securities issued by U.S. government agencies. Although not guaranteed by the U.S. government in the way that U.S. Treasury securities are, Agency/GSE bonds are securities from Government Sponsored Enterprises such as Fannie Mae, Freddie Mac and the Federal Home Loan Banks.**|
|Government||U.S. Treasury securities, other U.S. government securities, and repurchase agreements collateralized by U.S. Treasury or other U.S. government securities|
|General Purpose (also known as Prime)||Any eligible money market instruments as defined by applicable U.S. Securities and Exchange Commission regulations (Rule 2a-7 of the Investment Company Act of 1940), including all types listed above as well as commercial paper, certificates of deposit, corporate notes and other private instruments|
*A repurchase agreement is an agreement to buy a security at one price and a simultaneous agreement to sell it back at an agreed-upon price. On the termination (repurchase) date, the seller repurchases the asset and pays interest for the use of the buyer’s funds. As protection against the risk that the seller will not fulfill its obligation to repurchase the securities, the financial asset is held as collateral in a separate account at the custodian bank and priced daily (marked to market) to maintain a value at least equal to the repurchase price (which includes accrued interest).
National municipal funds invest in high-quality, short-term municipal money market securities that are typically exempt from federal income taxes, and in some cases the alternative minimum tax.
State municipal funds invest in high-quality, short-term municipal money market securities that are typically exempt from federal income taxes and may be exempt from state income taxes depending on your state of residence.
|Fund Type||Primary Types of Instruments Held|
|National municipal||Tax-exempt securities issued by ageancies of the federal government|
|State municipal||Tax-exempt securities issued by state and local governments and non-profit entities|
While the returns on money market funds are generally not as high as those of other types of fixed income funds, such as bond funds, they do seek to provide stability, and can therefore play an important role in your portfolio. Investors can use money market funds in a few ways.
- To offset the typically greater volatility of bond and equity investments
- As short-duration investments for assets that may be needed in the near term (such as an emergency fund)
- As a holding place for assets while waiting for other investment opportunities to arise (such as in the core position for your retirement or non-retirement brokerage account)
Investors who might consider money market funds
Money market funds may be appropriate for customers who:
- Have an investment goal with a short time horizon.
- Have a low tolerance for volatility, or are looking to diversify with a more conservative investment.
- Might be looking to generate modest income.
- Need investment to be liquid – that is, offer daily access.
Evaluating a money market fund
A money market fund is a type of fixed income mutual fund with very stringent maturity, credit quality, and liquidity requirements intended to help it achieve its goals of principal preservation and daily access for investors. Customers should determine when picking a money market fund that its characteristics align with their investment objectives and strategy.
- The objective for a money market fund is to provide current income consistent with principal preservation and daily access to money.
- Treasury and government money market funds potentially can offer a lower credit risk and return profile than general purpose money market funds.
- Municipal money market funds may be appropriate for non-retirement accounts that are not already tax-shielded.
- Investors should seek less conservative investments for better inflation protection over the long term.
Advantages of money market funds
Money market mutual funds are considered to be one of the least volatile types of mutual fund investments.
It’s easy to settle your brokerage account trades in other investments, or retrieve funds from a money market mutual fund—generally assets are available by the next business day.
The funds are required by federal regulations to invest in short-maturity, low-risk investments, making them less prone to market fluctuations than many other types of investments.
Because the duration of money market mutual funds is so short – at maximum a few months -- they are typically subject to less interest rate risk than longer-maturing bond fund investments.
Money market mutual funds tend to hold many different securities, with limited exposure to any single issuer.
Potential tax advantages
Some money market funds invest in securities whose interest payments are typically exempt from federal, and in some cases, state income taxes. These funds can be a potential source of stable, tax-efficient income.
Risks of money market funds
Unlike typical bank certificates of deposit (CDs) or savings accounts, money market mutual funds are not FDIC-insured. Although money market mutual funds invest in high-quality securities and seek to preserve the value of a share at $1.00, there is the risk that you could lose money, and there is no guarantee that you will receive $1 per share when you redeem your shares.
Because of the safety and short-term nature of the underlying investments, money market mutual fund returns tend to be lower than those of more volatile investments such as typical stock and bond mutual funds, creating the risk that the rate of return may not keep pace with inflation.
General purpose money market funds:
Foreign exposure: Entities located in foreign countries can be affected by adverse political, regulatory, market, or economic developments in those countries.
Financial services exposure: Changes in government regulation and interest rates and economic downturns can have a significant negative effect on issuers in the financial services sector, including the price of their securities or their ability to meet their payment obligations.
Frequently asked questions
Why are yields on money market mutual funds so low?
Money market mutual funds own a well-diversified pool of high quality, short-dated, interest-paying securities, and pass along the income earned on those securities (after fees) to the funds’ shareholders. Since the yields on the securities in which money market mutual funds invest are quite low, the yields that the funds are passing along to their shareholders are also quite low. The low-interest-rate policy of the Federal Reserve (the Fed) after 2008 is the key driver for low rates.
Who issues the securities that money market mutual funds buy?
Money market mutual funds invest in various types of short-term debt securities. U.S. money market mutual funds are permitted to own only U.S. dollar–denominated securities, so there is no risk of a foreign currency directly impacting the fund’s value. Some types of funds invest only in U.S. Treasury bills, debt from U.S. government agencies (such as the Federal Home Loan Bank and the Federal Farm Bank), or municipal securities issued by state and local governments and the like, while other types (called "general purpose" or "prime" funds) have a broader mandate and also invest in short-term debt securities of U.S. and non-U.S. banks, finance companies, and other types of corporations.
How short is “short term” for the securities in which money market mutual funds can invest?
The rules that govern money market mutual funds permit the funds to buy only securities that mature in 397 days or less. At least 30% of the fund’s total assets must be invested in Weekly Liquid Assets, which can consist of cash, direct obligations of the U.S. government such as U.S. Treasury bills, certain other U.S. government agency debt that is issued at a discount and matures within 60 days or less, or securities that will mature or are payable within five business days. For taxable funds, at least 10% of the fund’s total assets must be invested in Daily Liquid Assets, which can consist of cash, direct obligations of the U.S. government, or securities that will mature or are payable within one business day. The remaining investments can be in longer-term issues, typically maturing in 30, 90, or 120 days. The overall maturity of the fund must be less than two months.
How does a money market fund seek to maintain a $1 per share net asset value (NAV)?
The market value of the fund’s underlying assets can fluctuate slightly from day to day. Regulation permits money market mutual funds to process shareholder subscriptions and redemptions at the $1 share price as long as the difference between the per-share market value and the amortized cost value is less than one-half of a penny. Investing so as to maintain the net asset value (NAV) within that range is Fidelity’s No. 1 objective in managing money market funds.
Why doesn’t the government offer insurance on money market mutual funds?
The U.S. government does not offer insurance on any type of mutual fund. Money market mutual funds, like bond and stock mutual funds, are investments, and, as such, are not guaranteed. It is important that investors understand that.
What regulation changes did the SEC make after the financial crisis in 2008?
Three important changes were made in 2010:
- First, money market funds for the first time have mandated liquidity requirements. The regulations now require that 10% of a taxable fund’s total assets be invested in Daily Liquid Assets, and 30% of any money market mutual fund’s total assets be invested in Weekly Liquid Assets. So, this change has helped ensure that money market mutual funds have ample internal liquidity to respond to events in the short-term markets that might drive, for example, a sudden increase in redemptions.
- Second, the weighted average maturity of a fund’s investment has been reduced from 90 days to 60 days. Again, shorter maturities mean less risk—another impactful change.
- Third, the regulations require every money market mutual fund to post detailed portfolio holdings information monthly on its Web site. In addition, every fund is required to file detailed information with the SEC on a monthly basis about its portfolio composition, down to the CUSIP level of each security it owns. This information helps investors understand exactly what the fund owns every month.