When investors think about their portfolios, they often picture several buckets: stocks, bonds, real estate, alternatives, commodities and cash. This “cash” portion includes traditional bank deposits, but also many other instruments deemed “cash equivalents,” including short term CDs and investments in money market funds.
Until now, it has been generally reasonable to assume that money market funds are as good as cash. While they’re not covered by FDIC insurance, these funds tend to be liquid and their NAV, or net asset value per share, has been pegged at $1. However, yesterday’s new money market fund rules approved by the Securities and Exchange Commission bring into stark relief why money market funds are not “the same as cash.”
The SEC announced on July 23 new regulations governing how investors can get their money out of money market funds in the event of financial-markets turmoil. The rules allow some funds to put up barriers to redemptions under certain circumstances, according to The New York Times. That means investors could potentially lose access to their cash when they need it most.
What this means, in practice, is that investors should treat money market funds differently from cash as they think about liquidity. Before these new rules, investors could typically redeem their money-market fund shares at the end of each day. But if — in the event of market turmoil — it’s not possible to access these funds right away, that money is suddenly less available to the investor, and thus less valuable. It’s often precisely when markets are most troubled that cash becomes most valuable. Ask any investor who had excess cash lying around and bought the S&P 500 index when it fell below 700; today, the S&P 500 index stands just shy of 2000.
There are plenty of situations where an investor might choose to lock up money to get a more favorable return. CDs usually promise higher rates for a longer period. Private equity investments require much longer lock-ups, typically up to 12 years.
Money market funds are a different case. At current interest rates, these investments offer little to no return. Faced with these new regulations, investors may wonder why they must bear the risk of losing liquidity without being compensated by additional interest.
How to get around this problem? For investors who are looking to keep their money liquid, available, and FDIC-insured, savings accounts at leading online banks are a smart choice. These savings accounts can pay up to 0.90%, above the 0.11% average that U.S. savings accounts as a whole pay in interest and far more than the 0.01% offered by many money market funds at present.
For those investors compelled by the opportunity to earn higher returns on FDIC-insured bank deposits, MaxMyInterest offers a convenient platform to automatically manage multiple savings accounts to achieve greater FDIC protection and maximize interest income.
- How the 2008 Financial Crisis led to a better way to manage cash - April 28, 2020
- The Rush to Buy Toilet Paper Has All the Hallmarks of a Bank Run - March 20, 2020
- Maximizing Yield in a Near-Zero Rate Environment - March 12, 2020