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Should You Park Cash in a Money Market Fund?

With interest rates at rock bottom, Money Market funds offer limited returns, but investors are flocking to them anyway

Annalisa Esposito 9 September, 2019 | 10:57AM

cash

On the face of it, there is little reason to invest in a Money Market fund. After all, why would you pay a fund manager to put your money in a savings account when you could easily do that for yourself?

But investors have been pouring money into these funds in recent months, as they look to stave off stock market volatility. According to Morningstar data, some £2.8 billion has been invested into Money Market funds over the past year and the category has experienced positive inflows for the past six months in a row.

Yet the returns are meagre at best. The top performing Money Market fund has returned just 0.77% over the past year and the worst 0.23%. Not only are these returns paltry, crucially they do not beat inflation, which climbed to 2% in July, according to the Office for National Statistics (ONS). That means investors are losing money in real terms by backing these funds – so why would you choose one?

Money Market Fund Performance

money market

A Stressful Time for Investors

it’s a very stressful time for investors – Brexit, a US-China trade war, uncertainty in Europe where an election is on the cards in Italy and a recession looms in Germany – there is much to be nervous about. As well as that, many stock markets are trading at all-time highs, leaving many fearful of a sudden correction.

With such a fraught backdrop, it’s not surprising that many investors are increasing their allocation to cash. There are limited options for savers looking to do this: you can squirrel money away quite literally under the mattress at home, find a high street savings account or choose a Money Market fund.

The benefits of the latter are liquidity (your money is not tied in for a set period as it might be with a savings account) and diversification (a money market fund will spread your cash across a number of different deposits rather than leave it all in one place). It is also worth considering, that those with money already sheltered from the taxman in an Isa or pension wrapper would lose that protection if they moved their money to a high street account.

Aberdeen Standard Liquidity, for example, has its money spread across 240 holdings including investments with institituions such as Royal bank of Canada, Qatar National Bank and Swedish Swedbank.

BlackRock Cash, meanwhile, has 108 holdings spread in different banks all over the world including those in Canada, US, Denmark. It also holds money with UK-listed banks HSBC and Lloyds, and companies such as the Japanese car manufacturer Mitsubishi and Sumitomo.

David Callahan, head of Money Market at Lombard Odier, says that credit research is a key part of their process of selecting where to invest. “We establish a universe of eligible issuers, based on internal credit assessments, as well as external agency rating”, he says. “People may not want the concentration risk of having their money sitting with just on or two banks.”

Interest Rate Risk

Another benefit of Money Market funds is that they can reduce interest rate risk. While government-backed Gilts are often popular at times of uncertainty, locking into a 10-year Gilt comes with the risk of losing out as interest rates rise.

Dzmitry Lipski, investment analyst at interactive investor, explains: “Where to hold cash has been a challenge ever since central banks drove interest rates on bank deposit to almost zero.”

Not only has that made it harder for savers to find an inflation-beating interest rate on the high street but it has forced bond yields down as more money has flowed into fixed interest. In recent weeks the bond yield has even inverted, meaning that investors are being better rewarded for lending their money to the government for two years rather than, say, 30 years.

Craig Inches, head of rates at Royal London, says: “A cash rate of 0.75% looks very attractive when the alternative is locking into a negative rate of interest for years to come.”

Lipski likes the £3.1 billion Royal London Short Term Money Market and Fidelity Cash funds because of their low fees – high charges are a particular turn-off on funds where there is limited scope for returns. The funds charge 0.10% and 0.15% respectively, according to Morningstar data and have returned 0.74% and 0.69% respectively over the past year.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

About Author

Annalisa Esposito  is a data journalist for Morningstar.co.uk

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