Some banks may allow up to six withdrawals per statement cycle for MMAs while others offer no check-writing option at all. Many money market funds offer unlimited check writing but require checks to be written for a minimum dollar amount. Money market funds are special for three reasons:. The securities in which these funds invest are stable and generally safe investments.
Money market securities provide a fixed return with short maturities. By purchasing debt securities issued by banks, large corporations, and the government, money market funds carry a low default risk while still offering a reasonable return. Money market securities generally have large minimum purchase requirements that make it difficult for the vast majority of individual investors to buy. In contrast, money market funds have substantially lower requirements that are even lower than average mutual fund minimum requirements.
As a result, money market funds allow investors to take advantage of the safety related to a money market investment at lower thresholds. Money market fund shares can be bought and sold at any time and are not subject to market timing restrictions. Most of these funds provide check-writing privileges and offer investors same-day settlement, which is similar to trading money market securities. Money market funds are divided into two categories: taxable and tax-free.
Taxable funds mainly invest in U. Many other types of investments are eligible for taxable money market funds. For instance, if you like the housing sector, you can buy a money market fund that solely invests in Fannie Maes. Tax-free funds do not provide as many options.
These funds invest in short-term debt obligations issued by federally tax-exempt entities municipal securities and have a lower yield. In some cases, you can purchase tax-free funds that are exempt from both state and local taxes; however, these kinds of exemptions are exceptions rather than the norm. If you are deciding between tax and tax-free funds, it is important to calculate whether the tax savings created by the tax-free fund will be enough to make its lower yield worthwhile.
Taxable funds generally have higher returns—nominally. But if the tax on those returns effectively wipes out the additional return, the more optimal choice is the tax-free fund. You can't just compare the two funds' yields by themselves.
Instead, you need to convert the tax-free yield into an equivalent taxable yield. This can be accomplished with the following equation:. By converting the tax-free yield into a taxable equivalent yield using the formula above , we get 1. So, the choice is obvious: The tax-free money market is the way to go because the tax savings provide a better yield.
The higher the tax bracket, the better the taxable equivalent yield becomes. No asset comes without caveats. Before you invest in a money market fund, be aware of three areas of concern:. As with regular mutual funds, money market funds have expenses. A fund with a higher-than-average expense ratio is going to eat into relatively low returns. If you are a long-term investor building a retirement fund, a large position in money market funds is not appropriate.
On average, these funds generate income just slightly above the rate of inflation, which is not sufficient to build an adequate nest egg. Instead, money market funds should be used as a portfolio management tool to park money temporarily or accumulate funds for an anticipated cash outlay. Although they are relatively low-risk, money market funds are not entirely risk-free. In , the Community Bankers U. Government Money Market Fund of Denver got in trouble when the prices of the derivatives that dominated its portfolio dropped heavily.
In another case, the Reserve Primary Fund failed in September The prestigious fund held hundreds of millions in short-term loans to Lehman Brothers and, when that investment firm went bankrupt, a wave of panicked selling ensued among Reserve's own investors. To avoid an industry meltdown, the U. Treasury had to step in and guarantee other money market funds. Community Bankers and Reserve Primary are the only two recorded failures in the history of money market funds, going back to But it's a reminder that every investment carries some risk, even conservative ones.
Whether you decide to use money market funds as an investment vehicle or as a temporary place to stash money while waiting for the right security to buy, make sure you know as much as possible about a particular fund, its characteristics, its investment strategy, and how its expenses compare to comparable vehicles.
Money market funds are often touted as the same as cash. They're not. No investment is—nor would you want it to be. Code of Federal Regulation. Several indexes hold one or two dominant positions that the ETF manager cannot replicate because of SEC restrictions on non-diversified funds.
In an effort to create a more diversified sector ETF and avoid the problem of concentrated securities, some companies have targeted indexes that use an equal weighting methodology. Equal weighting solves the problem of concentrated positions, but it creates other problems, including higher portfolio turnover and increased costs. One disadvantage of investing in any exchange-traded portfolio is the added layer of complexity that comes with the products. Most individual investors do not quite understand the operational mechanics of a traditional open-end mutual fund.
As such, it is a leap of faith to expect individual investors to easily comprehend the differences between exchange-traded funds, exchange-traded notes, unit investment trusts, and grantor trusts. These are not easy products to understand. Another area of investor confusion is settlement periods. The settlement date is the day you must have the money on hand to pay for your purchase and the day you get cash for selling a fund.
The ETF settlement date is 2 days after a trade is placed, whereas traditional open-end mutual funds settle the next day. The difference in settlement periods can create problems and cost you money if you are not familiar with settlement procedures. For example, if you sell ETF shares and try to buy a traditional open-end mutual fund on the same day, you will find that your broker may not allow the trade.
That is because there is a 1-day difference in settlement between the item sold and the item bought. If you try to make the trade, your account will be short of money for a couple of days, and at best you will be charged interest. At worst, the buy side of the trade will not occur. One area that is neither an advantage nor a disadvantage of ETFs over traditional mutual funds is their expected returns.
Some ETF companies increasingly try to set their products apart from traditional market index funds by inferring the indexes they follow will have better performance than the benchmarks. All fund companies choose securities from the same financial markets, and all funds are subject to traditional market risks and rewards based on the securities that make up their underlying value.
As securities in a portfolio that makes up the ETF fluctuate, the value of ETF shares will also rise and fall on the exchange, as will the value of open-end mutual funds that are managed using the same strategy. Consequently, assuming the fee and investment objectives of a particular ETF and its competitors are the same, the expected return is also the same.
ETFs are subject to market fluctuation and the risks of their underlying investments. ETFs are subject to management fees and other expenses. Skip to Main Content. Search fidelity. Investment Products. Why Fidelity. Home » Research » Learning Center ». Print Email Email. Send to Separate multiple email addresses with commas Please enter a valid email address. Your email address Please enter a valid email address. Message Optional. Research ETFs. Please enter a valid e-mail address. Your E-Mail Address.
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Article copyright by Richard A. The statements and opinions expressed in this article are those of the author. This reprint and the materials delivered with it should not be construed as an offer to sell or a solicitation of an offer to buy shares of any funds mentioned in this reprint. The data and analysis contained herein are provided "as is" and without warranty of any kind, either expressed or implied. Fidelity is not adopting, making a recommendation for or endorsing any trading or investment strategy or particular security.
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When you buy shares of a security, you'll be asked whether you want any dividends transferred to your money market settlement fund or reinvested in more. The money market settlement fund paves the way for buying and selling brokerage products. You can use your settlement fund to buy mutual funds and ETFs. When a stock or fund that you own pays dividends, you can pocket the cash and use it as you would any other income, or you can reinvest the dividends to buy.