In the world of investing, money markets represent short-term, highly liquid investments in interest-bearing debt. The money market is not a marketable security, but rather the segment of the financial market that trades money market instruments. A private investor can lend to the money market and collect interest income by depositing money into a bank’s money market account or into a money market mutual fund.
Money Market Account
A bank’s money market account is insured if the bank itself is insured. The Federal Deposit Insurance Corporation insures accounts, including money market bank accounts, for up to $250,000 per account title. For example, a married couple could have separate and joint money market accounts and receive $750,000 of FDIC coverage within the same bank. Savers can open an unlimited number of insured accounts by using multiple banks. The FDIC guarantees the value of a money market account, up to the limit, even if the bank fails.
Money Market Mutual Fund
Mutual fund companies and brokerages offer money market mutual funds to customers. The FDIC doesn’t insure these funds, but the Securities Investor Protection Corporation, or SIPC, might. SIPC insurance protects investors should the mutual fund company become insolvent, but it doesn't guarantee the net asset value, or NAV, of money market mutual fund shares. Normally, this NAV is $1 per share, but money market mutual funds that experience losses are in danger of “breaking the buck,” that is, having share values sink below $1. This is a rare situation and mutual funds usually use their resources to prevent such an occurrence, but NAV protection is not guaranteed.
Money Market Instruments
The term of money market instruments ranges from overnight to one year. All money market instruments are easily converted into cash, and include certificates of deposit, U.S. Treasury bills, commercial paper, banker’s acceptances, federal funds, municipal notes and repurchase agreements. Treasury bills are backed by the full faith and credit of the federal government, but the other money market instruments are usually not insured, although defaults are rare. Corporations issue commercial paper as a way to pay for short-term obligations. A banker’s acceptance is short-term corporate debt guaranteed by a commercial bank.
Uses of Money Markets
A money market bank account may provide check writing, ATM withdrawal and debit card services. These accounts normally pay a higher rate of interest than do standard savings accounts. A money market mutual fund provides a convenient parking place for the cash proceeds from the sale of other mutual funds in the same family. These too might offer check writing, ATM and debit card features. Some investors choose not to reinvest dividends and capital gain distributions from their mutual funds, and instead have the money deposited into a money market mutual fund.
- Comstock/Stockbyte/Getty Images