Money market funds are a special type of open-ended investment fund. They are considered very safe, but are generally not suitable for long-term investments. The reason for this is the relatively low return. In connection with the capital market, the money market refers to investments with terms of less than one year. Direct participants in the money market are institutional investors, banks, insurance companies and large companies who want to park liquid funds for a short time. Money market instruments include promissory note loans or time deposits as well as short-term bonds. Private investors also have access to this market segment via money market funds.
- In contrast to an equity fund or bond fund, a money market fund is not suitable for long-term capital accumulation.
- Most fund companies charge their money market funds with a front-end load of between 0.5 and two percent.
- One risk lies in the negative return.
How do money market funds work?
Money market funds collect so-called money market papers in their fund assets. These are fixed-income securities and borrower’s note loans from various issuers with a maximum term of twelve months. Against the background of the short terms, the fund management is constantly busy exchanging the papers in the fund.
The costs of money market funds
In contrast to one Equity funds or Bond funds , a money market fund is not suitable for building up long-term capital. The returns in the money market area are the lowest on the capital market, as a glance at overnight interest rates shows. In contrast to one. However, overnight money incurs costs with a money market fund. This definitely includes the costs of fund management. Most fund companies also charge their money market funds with a front-end load of between 0.5 and 2 percent. This may be acceptable if the returns are above the agio. In times of extremely low interest rates, however, the average annual performance is not sufficient to compensate for the issue surcharge in the first year.
Use by private investors
Similar to a call money account, money market funds are primarily used to temporarily park liquid funds. Against this background, funds with a front-end load are more likely to be detrimental to assets. Life insurers try to make the maturity benefits more payable. Keeping life insurance in-house and therefore often offer money market funds as an interim solution until the customer has made a decision about how the funds will be used.
Money market funds: be aware of the risks
The risk with a money market fund does not lie in price fluctuations. Money market papers are quite stable. The risk is in the negative return . Almost all money market funds are issued for a premium of up to one percent. Is the cost of Agio and fund management above the generated return, the investor records a loss. If they sell, they will receive less than they originally invested.
Money market funds and time deposits
The main difference between a money market fund and an investment in Fixed deposit depends on availability. Investors can return the units of their money market fund to the fund company on any banking day, so they have maximum flexibility.
A fixed-term deposit is closed for a certain period of time between 30 days and ten years. The longer the term, the higher the interest rate. However, if the investor needs the money before the binding period has expired, the bank can refuse to make the payment with reference to the agreed contract period. This business practice aims to sell a loan to the investor in need of money.
If the bank is willing to compromise, it will dissolve the fixed-term deposit, but then only at the interest rate that applies to a statutory savings deposit.