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Safety of Money Market Funds?

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An article in a New York Times yesterday has raised concerns that the subprime mortgage problems may have effects on money market funds. Money market funds are mutual funds composed of short-term debt investments. As the article mentions:
Such funds are sold to investors as the equivalent of cash, and their $1-a-share net asset value is considered inviolate. But if the funds experienced big losses, the value of the assets could be vulnerable.

The problem is that some of these funds hold commercial paper, and according to the article:
Standard & Poor's, the ratings agency, warned yesterday that it might downgrade several issuers of commercial paper, a short-term I.O.U. by companies that promise to repay loans typically within a few weeks to a year. In these cases, S.& P. said, the commercial paper was backed by residential mortgages.

It should be noted that money market funds have many safety precautions in place to protect the investors and have a long history of principal preservation. Also, it's widely believed that the money market funds offered by major brokerages like Fidelity and Vanguard provide extra safety since these major brokerages wouldn't allow their money market funds to "break the buck". Nevertheless, there are no guarantees or FDIC insurance.

It's important to note that money market funds are different than money market accounts. Money market accounts are offered by banks and credit unions and are typically federally insured by the FDIC (for banks) or NCUA (for credit unions). Money market accounts are essentially the same as savings accounts. Unlike savings accounts, they usually have limited check writing and have higher minimum balance requirements. But this can vary based on the bank. For example, AmTrustDirect calls their account a money market account, but it has no check writing or minimum balance requirements. On the other hand, GMAC Bank calls their account a money market savings account and it allows limited check writing. It would probably make things clearer if all of these bank accounts were just called savings accounts. That would also help distinguish them from the money market funds.

Thanks to the reader who emailed me info on this article.

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Comments
8 comments.
Comment #1 by Anonymous posted on
Anonymous
I had money in a MM account years ago and they broke the buck. It was Merrill Lynch, I think, but it is too long ago for me to recall for sure. This is not something MM funds like to talk about and many folks are unaware it can happen. These days I just use the bank or CU MM accounts. The better ones pay higher interest anyway, and they are safe.

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Comment #2 by Anonymous posted on
Anonymous
Dear Banking Guy:
On money market funds, just a note to everyone to say they're perfectly safe. No individual investor has ever lost money in one, and no one will over this "extendible asset-backed commercial paper" episode. (Several companies extended on their debt obligations.) No money market securities have defaulted and no funds have dropped below $1.00 a share. Check our site at: http://www.cranedata.us for more money fund news.
Sincerely,
Pete Crane
Publisher, Money Fund Intelligence

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Comment #3 by Anonymous posted on
Anonymous
Safe my eye. What a crock! To be truly safe a MMF would have to carry a government (FDIC or NCUA) guarantee. Except for funds at banks and CUs, they do not. Now it's true non-bank MM funds have been historically safe. Very little, if ANY, money has ever been lost in these funds. But they are not insured. If things became really, really bad - far worse than this minor rumble we are in now - then I just wonder how safe the non-bank MM funds would turn out to be. Since the banks and credit unions pay higher interest anyway - the better ones do, that is - why bother with something that's not insured. It makes no sense to me and never has.

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Comment #4 by Anonymous posted on
Anonymous
With banks now able to own brokerage companies and to steer suckers -- er, I mean, customers, -- to brokers working out of bank lobbies, I think it pays to be clear in your terminology.

Money Market Funds, even those offered by bank subsidiaries or affiliates are NEVER insured by the FDIC or NCUA. (And the SIPC does not insure them against loss of value.)

Banks offer deposit accounts called Money Market Deposit Accounts or Money Market Accounts. These are bank accounts and are insured (if the bank is insured).

Don't confuse a Money Market Account with a Money Market Fund. For example, the Wells Fargo Advantage Money Market Fund is NOT FDIC insured. The Wells Fargo Money Market Savings Account IS FDIC insured.

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Comment #5 by Anonymous posted on
Anonymous
MMF held by brokerage companies are insured by SIPC and for an amount far in excess of lousy $100,000 carried by FDIC.
That is why no MMF has yet failed.

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Comment #6 by Anonymous posted on
Anonymous
The MMFs themselves are not insured by the SIPC. The contents of your brokerage account is insured by the SIPC.

So, if you have 1000 shares of an MMF in your brokerage account, the SIPC guarantees that if your broker goes bankrupt, they will replace the 1000 shares. They do not guarantee that the 1000 shares will be worth $1000.

They do not guarantee that the management of the MMF will not mismanage the fund or that the MMF will not lose money.

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Comment #7 by Anonymous posted on
Anonymous
Any attempt to draw a practical distinction between a Money Market Fund and a Money Market Account is silly. It's a distinction without a practical difference. What I wrote is clear on its face: If the account carries FDIC or NCUA insurance it is safer than an account not carrying insurance. This could not be more obvious. Non-bank MMF advocates are well aware of all this. They have worked for years to spread FUD, and also confusion, re the bank accounts with which they are unable to compete. They cannot compete on safety, and very frequently they cannot compete on interest rates either. They need to suck it up and deal with the truth.

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Comment #8 by Anonymous posted on
Anonymous
One commenter wrote "Since the banks and credit unions pay higher interest anyway - the better ones do, that is - why bother with something that's not insured. It makes no sense to me and never has".

The answer is simple. Some pay MUCH higher.
Take a look at Millenium Bank. They have some CDs paying over 8%.
Of course the rule as always is that there's some reason for a higher rate. In this case, unlike most CD's you can't pull your money out of the CD early -- not even if you're willing to pay the penalty -- and it is not FDIC insured.

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