Money Market Funds: Where Your Money Is Invested

Money market funds are a type of mutual fund that invests in short-term, higher-quality securities. They are designed to provide high liquidity with lower risk, stability of capital and typically higher yields than some other cash products. Money market funds can be grouped into three general categories: government money market funds, municipal money market funds and prime money market funds.

Government money market funds are limited to government securities, such as U.S. Treasuries, and collateralised repurchase agreements involving Treasuries. Municipal money market funds are often called tax-exempt funds because interest on municipal securities is generally exempt from federal income tax. Prime money market funds are also called general-purpose money markets because assets can be invested in any of the security types listed above.

US Treasuries

US Treasury money market funds are suitable for investors seeking stable and secure investment options with low credit risk. The funds invest in short-term US government debt obligations, which are considered highly liquid and stable. The full faith and credit of the US government further enhance the reliability of these funds. The US Treasury funds have rules and regulations governing their operations, including maturity limitations and credit quality requirements, to ensure the safety of investor capital.

The US Treasury money market funds are classified as government money funds, which, according to the Securities and Exchange Commission (SEC), must invest at least 99.5% of their total assets in cash, US Treasury securities, and repurchase agreements. This requirement ensures a very low-risk profile for these funds. The SEC also mandates that at least 80% of the fund's assets must be invested in US Treasury securities and repurchase agreements.

The income generated by US Treasury money market funds can be taxable or tax-exempt, depending on the specific securities held by the fund. These funds are an attractive option for investors looking for stable returns with low volatility and high liquidity. The funds aim to maintain a net asset value (NAV) of $1 per share, providing regular income to investors.

Overall, US Treasury money market funds offer a safe and stable investment option for investors seeking capital preservation, high liquidity, and modest income through short-term, high-quality government debt instruments.

Municipal securities

Municipal money market funds are further classified as either retail or institutional. Retail funds are available to individual investors and can transact at a stable $1.00 net asset value (NAV) per share. Institutional funds, on the other hand, are targeted at institutional investors and have a higher minimum investment amount, often $1 million. These funds have a floating NAV, which means that the share price will fluctuate and is priced to four decimal places (e.g. $1.0000).

Municipal money market funds are considered to be among the lowest-volatility types of investments. They are also highly liquid, with investors able to access their assets daily. However, it is important to note that money market funds are not insured by the Federal Deposit Insurance Corporation (FDIC) and there is a risk of losing money.

Commercial paper

Money market funds, in particular, aim to maintain liquidity while earning a modest return, making commercial paper a suitable investment for them. Money market funds are a type of mutual fund that invests in short-term, high-quality securities. They are designed to provide high liquidity with lower risk and typically offer higher yields than other cash products.

In summary, commercial paper is an important component of money market funds due to its short maturity, low risk, and ability to provide liquidity and modest returns to investors.

Repurchase agreements

In a repurchase agreement, a dealer sells government securities to an investor, usually overnight, and buys them back the following day at a slightly higher price. The small price difference is an implicit overnight interest rate. Repos are typically used to raise short-term capital and are commonly used in central bank open-market operations.

The party selling the security and agreeing to repurchase it later is involved in a repo, while the party buying the security and agreeing to sell it back is engaged in a reverse repurchase agreement or reverse repo. The U.S. Federal Reserve uses repos and reverse repos to manage the money supply and influence short-term interest rates, a crucial part of monetary policymaking.

Money market funds may use repurchase agreements to invest surplus funds on a short-term basis. Repurchase agreements are made between a variety of parties, including the Federal Reserve, individuals, commercial banks, central banks, and asset managers with temporary cash surpluses.

There are two types of securities used in repurchase agreements: traditional and non-traditional. Traditional securities include U.S. government securities such as U.S. Treasuries, agency debt, and agency mortgage-backed securities (MBS). Non-traditional securities include non-government securities such as corporate investment-grade and non-investment-grade debt, as well as equity securities.

The rates for repurchase agreements are negotiated based on several factors, including market conditions, supply and demand for certain forms of collateral, and the credit quality of the underlying securities. Tri-party repo uses a "tri-party" agent, usually a custodian bank or clearing organization, to serve as an intermediary between the buyer and seller. This minimizes the operational burden of the transaction and provides protection for the buyer in the event that the dealer goes bankrupt.

Overall, repurchase agreements play an important role in the money market funds space by providing a short-term, collateral-backed lending option for investors.

Bankers' acceptances

A banker's acceptance (BA) is a negotiable instrument that functions like a post-dated cheque. BAs are guaranteed by a bank, rather than an account holder, and are used by companies as a safe form of payment for large transactions, particularly in international trade.

Banker's acceptances are also known as bills of exchange and are traded at a discount in the secondary money markets. They are issued 30 days before the date of maturity but can mature at any later date from one to 180 days. BAs are most commonly issued in multiples of $100,000, with a maturity date between one and six months.

BAs are a way for a company to pay for a purchase without borrowing. The bill is a guaranteed form of payment for the company that receives it. The bank is required to pay the holder a set amount of money on a set date.

BAs are considered to be relatively safe investments because the bank and the borrower are liable for the amount that is due when the instrument matures. They are also advantageous in transactions between unfamiliar parties by reducing credit risk.

Money market funds are mutual funds that invest in highly liquid, near-term instruments. They are intended to offer investors high liquidity with a very low level of risk. Money market funds can invest in banker's acceptances, which are short-term debts guaranteed by a commercial bank.

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