Money market mutual funds aim
Looking for a temporary parking place to keep money
in the midst of stock market turmoil? Some financial experts are recommending
money market mutual funds.
for liquid cash, temporary savings
Since their introduction in the early 1970s,
money market mutual funds have grown at a phenomenal rate and are
now the investment choice of one in four households, according to
Fund Education Alliance, a Kansas City, Mo. industry trade group.
Credit two reasons for the popularity of this
investment tool: Shareholders have easy access to their money, usually
through check-writing privileges, plus they get immediate returns
in the form of monthly dividends that can be automatically reinvested.
"People look at money market funds as if they
are a new investment when the stock market takes a big downturn,"
says Michelle A. Smith, managing director of the Mutual Fund Education
Alliance. "They start looking for ways to get more for their money."
In a time of market volatility, that can mean
opting for this conservative investment.
ways to earn
For every dollar the shareholder puts in a money market
mutual fund, he gets a dollar back plus the interest the money earns
from investments the fund makes. Investors can make money in three
ways: through income dividends, capital gain distributions and profits
from selling shares.
Money market mutual funds can invest in all
sorts of things, including U.S. securities such as Treasuries, tax-free
instruments, letters of credit and commercial paper -- which are
short-term loans to corporations.
Money can be withdrawn at any time without penalty,
unlike certificates of deposit, which require money to be kept on
deposit for a fixed period and impose penalties for early withdrawal.
Money market funds are managed so that the share price always is
kept at $1. This means if an investor deposits $100 into a fund,
he is buying 100 shares.
If the securities in the investor's fund earn
dividend or interest payments, this money is distributed to the
fund's shareholders. Income dividends are distributed on a set schedule
-- usually monthly, quarterly, semiannually, or annually. Investors
whose goal is to meet current expenses generally arrange to receive
this income in cash payments. Those aiming to meet a long-term goal,
however, generally arrange to reinvest this income in order to maximize
their potential results.
Capital gains distributions occur when a mutual
fund sells securities at a profit. These gains are distributed to
the fund's shareholders. Again, long-term investors often choose
to reinvest this money into the fund rather than receive cash payments.
Risks and returns
Generally, investments offering the potential for higher
returns are accompanied by a higher degree of risk, and money market
mutual funds are no different. Unlike bank deposits, the Federal
Deposit Insurance Corp. doesn't insure money market funds. They
are, however, regulated by the U.S. Securities and Exchange Commission,
which restricts the type of securities in which fund managers can
"Regulations are stringent on the type of securities
money funds can invest in and the icing on the cake is fund companies
want to do what it takes to maintain that public confidence," explains
Chris Wloszczyna, director of public information at the Investment
Company Institute, a Washington- based association representing
the mutual fund industry.
Before taking the plunge, investors first should
evaluate the goal of a money fund. For example, are potentially
higher earnings worth the additional risk of some investments, or
is the investor better off sticking with something safer, but earning
Also, is the investor making a short- or long-term
investment -- is the income needed now, or is it being saved for
a child's education or retirement?
Taxes are another consideration. The investor is liable
for taxes on dividends, capital gains distributions the fund pays
while he own its shares, as well as capital gains the investor realizes
when he sells or exchanges shares.
Some exceptions include distributions received
in tax-deferred accounts, such as traditional individual retirement
accounts, and those funds that provide dividend income that is exempt
from federal and state taxes, such as municipal money market funds.
Taxable funds invest in corporate and government
securities, and investors must pay taxes on the interest these funds
earn. Within the taxable-fund category are government-only funds
and general purpose funds that buy a mix of securities. The government-only
funds buy only securities issued by the federal government.
Tax-free money funds buy only municipal securities,
which means investors won't owe federal taxes on the interest they
earn from the fund. Because the interest is tax-free, these funds
routinely pay a lower yield than taxable funds.
Financial counselors advise investors to ask hard questions before
buying into a money fund. The fund salesman is required to provide
specific answers about the product, its costs and the risks involved.
Also, review the fund's prospectus before buying. It will provide
information on the fund's goal; how the fund will be invested; what
the risks are; the fees to maintain the fund; the manager of the
fund; how to buy and sell fund shares; how the fund's distributions
are made; how the fund is taxed; and other matters.
"You have to be cognizant of the
organization that you have selected to do business with, their expertise
and the amount they are currently investing," explains Tim Pillion,
senior vice president of global sales at Federated
Investors Inc., a New York-based fund investment organization
managing $111 billion in assets. "Generally, money funds are safe
Pillion adds that because investors have the
ability "to move in and out of the fund with out losing any principal
gain, it can become a checking account where you can manage household
and personal finances."
"Say you get a year-end bonus of $5,000 and
you decide to put it in a money fund because you're a little nervous
about the stock market; it's the ideal place to park money for the
short term," says Wloszczyna, of the Investment Company Institute
Like any bargain, the good ones are worth shopping
for. Different banks, brokers and investment houses offer varying
interest rates and contract terms. Spend a little time comparing
funds to find the deal that's best for you. Lastly, be aware of
the following common fees, according to the Consumer
- Front-end loads, which are a straight percentage
of the amount, invested -- up to 8.5 percent.
- Back-end loads, which are paid when the investor
cashes in the investment. Generally, the fee will be lower the
longer you wait.
- 12b-1 fees are charges to cover advertising
and marketing costs of the fund.
- Management fees pay for the fund's investment
The fees associated to maintain a money market
fund range on the low end from about $2 for every $1,000 invested
to $20 for every $1,000 invested, according to Smith of the Mutual
Fund Education Alliance. "Other things being equal, lower costs
mean higher returns for investors," Smith says.
Peter Crane, managing editor of IBC's Money Fund Report
in Ashland, Mass., adds that many of the money market funds promoting
higher-than-average yields are achieving them by temporarily waiving
some of their management fees or absorbing other operating expenses.
In fact, up to 60 percent of money funds are doing so, according
Why are these funds waiving fees? Apparently
to create exceptionally high promotional yields that can be heavily
advertised. Then, after the funds attract a large asset base, they
will apply their full fees and expenses.
"They are betting on shareholder apathy or ignorance,
assuming that when the eventual reduction in yield comes, most investors
will maintain their investments in the fund," Crane explains.
To combat this misleading tactic, Crane suggest
looking for funds that maintain low expenses year after year, without
resorting to short-term tactics to artificially boost yields.
-- Posted: Feb. 2, 1999