Money
market funds are a type of mutual fund. Also
called principal stability funds, they are required by law to invest in highly
liquid, low-risk securities, thereby decreasing the risk of loss due to credit,
market, and liquidity. Established in 1971 by Bruce R. Bent, the first money
market fund, The Reserve
Fund, offered investors a way to preserve their cash while earning a small
rate of return.
Money
market funds are professionally managed, collective investment schemes that
pool money from a number of investors and typically invest in government
securities, certificates of deposit, or asset-backed commercial paper.
Though money market funds possess the least risk, they also have lower rates of
return. Unlike other collective investments, money market shares are liquid, and
redeemable at any time.
In the United States, the Investment Company Act of 1940 is used
by the Securities and Exchange Commission (SEC) to regulate all money market
funds. Money market funds buy the debt with the highest rating that matures in
less than 13 months. Aside from government-backed securities and repurchase
agreements, the portfolio cannot invest more than 5% in any one issuer.
The Weighted Maturity Average (WAM),
which is the combination of the amount of time remaining in each loan
multiplied by the percent of the overall loan pool each loan has, is also
considered. Money markets must have a WAM of 90 days or less. Rule 2a-7 governs
these limitations.
Redemption of money market shares are usually paid out within seven days of tender. Section 22(e)
of the Investment Company Act of 1940 states that registered open-ended
companies cannot suspend the right of
redemption of money market shares. It also says
companies must pay proceeds of redemption within seven days, unless certain
cases or emergencies are permitted by the Commission.
Money market funds aim to keep their net asset value (NAV) at $1.00 US Dollar (USD) per share, with only the yield
fluctuating. Though losing on a money market fund is rare, it is possible. The
Reserve Fund shares fell to $0.97 USD on Tuesday, 16 September 2008, in what is
called "breaking the buck." This happened after debt issued by Lehman
Brothers, who filed for bankruptcy a day earlier, was written off. This occurrence caused huge
investor anxiety.
Money market funds traditionally have not been insured
by the federal government, unlike money market deposit accounts. In response to
the events of mid-September 2008, the US Treasury Department announced a temporary guarantee program for US money
market funds. Before investing in a money market fund, it is important that the
potential investor read all of the fund’s available information. This would
include the prospectus, its profile, its most recent shareholder report, and
anything else available.