Risks: If inflation rates exceed the interest rate earned on the account, your purchasing power could be diminished. In addition, you could lose some or all of your principal if your account is not FDIC-insured (although the vast majority are) or if you have more than the $250,000 FDIC-insured maximum in any one account.
Liquidity: Federal regulations limit withdrawals to six per month (or statement cycle), of which no more than three can be check transactions.
Pros and cons: MMAs are FDIC-insured (NCUA-insured for most credit union accounts) for up to $250,000 per account through Dec. 31, 2013. They often allow limited check-writing privileges. However, it's important for investors to shop around, because interest rates vary. Withdrawals are limited to a certain number each month and fees can add up quickly if you don't maintain a certain minimum balance. Earned interest is subject to income tax.
Where to find them: Banks and credit unions offer them.
Caveats: Money market accounts may be more beneficial to investors who need quick access to their cash because, unlike CDs, your funds are easily available -- at least on a limited basis.
Words of caution: "One of the biggest mistakes that people have made historically when opening a money market account through the mail or the Internet is they only fill out the bare bones application. There are very often a variety of options that you can choose from, such as a physical checkbook or electronic money transfer. You can establish most of those features right at the beginning when you send in the application, but very often if you want to add them later on, it's much more difficult because you may have to get a signature guarantee or some other form of hard verification before you can add that feature." -- Eric Jacobson, fixed-income investment specialist, Morningstar, Chicago.
Money market fundsHow they're valued: Money market funds are mutual funds that typically invest in high-quality, short-term investments that mature in 13 months or less. Fund investments can include U.S. Treasury securities, CDs, federal agency notes, commercial paper and municipal securities. Money market mutual funds base their annual rate of return on the yield the fund has earned over a seven-day period. Fund managers try to maintain a share price of $1. The share price is known as net asset value, or NAV.
Risks: The U.S. Securities and Exchange Commission prohibits the average maturity of fund investments from exceeding 90 days. Restricting investments to such short terms helps reduce risk to the investor by protecting them from major rate fluctuations that may occur over longer periods. Interest rates can vary, so there's no guarantee of how much you'll earn from month to month. Further, there's no guarantee that the share price will remain stable at $1 per share. If the share price dips below $1, you could lose some of your principal. When a money market fund is unable to maintain a $1 NAV, it's known as "breaking the buck." This very rarely happens, although it has occurred recently as a consequence of the credit crisis.