2-minute read
How much fun is easy money?
It’s VERY fun.
About as good as it gets.
What made you say that? You bet on Patrick Mahomes in the Super Bowl?
Nope, I’m referring to this:
What’s a money market fund?
Money market funds are investments in short-term bonds that pay the investor a low-risk yield (yield = return). Think about it like a savings account, but the yield is generally higher.
Is this some flashy new investment? Like some of the alternative investments you read about every now and then?
No, they’re very much the opposite. Money market funds have been around since the 1970s. You invest money in the fund and you get a variable yet low-risk yield in return. That’s it.
What kind of yield are we talking about?
Most money market funds are paying around 5-5.30%.
And that’s essentially risk-free?!
Yes, sir.[1]
Back up the Brinks truck!
It’s tasty but…
How’s there a “but” to this?!
Keep in mind that the yield is variable. Your return will go up and down based on the path of interest rates.
Bonds are variable too. So variable, in fact, that I lost 13% on my bonds no later than 14 months ago.
I’m glad you brought up bonds. Check this out:
Explain.
The graphs show the percentage of industry assets in bonds and money market funds from 2012 to 2023. The pie chart on the left is from 2012 and the one on the right is current.[2]
So an equal amount of investor money is in bonds compared to money market funds?
Yes.
And this is a problem because…?
For one, there’s this:[3]
What kind of harm would this do to money market rates? Would we go from 5% to 3%?
Forecasting the magnitude of the cuts is tough. But, yes, you could see a scenario play out like that.
It’s still better than losing money in bonds.
Of course. But you are forgetting two things. One, if interest rates fall, the value of bonds goes up. Meaning that you would have missed out on bond gains while your money market fund return decreases.
Sure, sure.
Two, the historical returns of bonds are close to 5% while money markets are 3%.[4]
So just dump my money market funds and CDs now?
No, don’t do that. My advice is to have a healthy balance of these two asset classes. Avoid a money market fund addiction that could backfire when rates decline. In the end, you’re trying to avoid going from a beautiful pile of cash paying you 5% to an unproductive ant hill paying 2-3%. Because then the question becomes: “What now?”
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[1] Money market funds are not by definition “risk-free”. However, they have historically fallen below an NAV of $1.00 on few occasions (i.e. “broke the buck”).
[2] Current as of 12/31/2023.
[3] Article by Associate Press journalist, Christopher Rugaber, on February 04, 2024.
[4] Source: https://awealthofcommonsense.com/2024/01/historical-returns-for-stocks-bonds-cash/