How Safe is Your Money Market?

What is the difference between a money market fund and a money market account?

One big difference is a money market account is an interest earned savings account that is offered by a FDIC insured financial institution. The FDIC insures up to $100,000. Whereas the money market mutual fund is based on a seven day average yield rather than an annual yield. However, the effective rate is comparable to the money market account offered by a bank. The money market mutual fund is not insured by the FDIC. This means, if for some reason that mutual fund collapsed, you would be out of luck in collecting what you thought was a safe holding for your money.

Are they both safe?

The money market accounts are safe. The money market fund has some risk to the principle. Now, I'm not saying that money market funds are not safe. However, you should be aware of what is the profile for that fund. Typically, money market funds hold short term debt like high quality bonds or U.S. Treasuries for a holding period of thirteen months or less. However, a portion of those holdings can be invested in stocks which can cause it to have more of a daily fluctuation than a bank's money market account. Therefore, in essence there is more risk to a money market fund than the money market account. If for some reason that fund went belly up, you are not protected by the Securities Investor Protection Corp which governs brokerage accounts. This type of incident is not a common occurrence. Although it can happen, investment firms will do everything possible for it not to happen. Otherwise, they would lose the investor's confidence.

You see, there is an implied guarantee from the investment firm that the value of the fund will never go under a $1.00. When you own a money market fund rather than a money market account, you own share units of the investment in the mutual fund. You will see that the share value will always show $1 and not fluctuate from that amount. It is the interest rate that will fluctuate. If that ever did break a $1.00 it would be called "breaking the buck". Actually, in August of this year, when we read about the big bank exposure to sub prime problems, there was lots of speculation going on involving the potential of "breaking the buck". That is because some money market funds could have some exposures also to sub prime investments if one of their holdings invested in it.

Are there limitations on withdrawing your money?

There is also a difference between the two types of money markets when it also comes to restrictions. With a money market account that is offered by the banks, you have Regulation D, which controls the amount of transactions to six transfers or withdrawals per month. With a money market fund it is governed by the policy of the investment firm's limitation rules.

Just remember, just because you hear "money market" does not mean all money markets are created equal.