ARE MONEY MARKET MUTUAL FUNDS HEADED FOR TROUBLE
Jitters in the credit markets due to fallout from the sub-prime mortgage mess have spread to that bastion of perceived safety, the money market mutual fund industry.
Should investors be concerned?
Probably not, especially if they deal with a large fund backed by a reputable investment company.
Although some money funds have inched close to subjecting investors’ money to small declines over the years, no retail money fund has ever done so because their sponsors have always backed them up.
Stable since birth
The modern money market fund was born in 1970 and the industry now accounts for $3 trillion in assets.
The idea was to offer a safe, very short-term investment fund that always held its share prices at $1. That way an investor’s principal does not fluctuate and the investor is paid the highest current short-term interest rate on top of that principal. Money funds are closely regulated by the Securities and Exchange Commission. They are allowed to hold only top-tier investments with an average maturity under 90 days. The short lifespan of a money fund’s investments means there is less chance of default while held by the fund.
Breaking the buck
The big fear for investors is that a money fund’s holdings will decline to the point that the fund has to price its shares at less than $1, a phenomenon known as “breaking the buck.” In practice, this has happened only once, when a small institutional money fund in 1994 was liquidated and institutional investors got 96 cents on the dollar. Retail funds offered to the public have avoided breaking the buck by having their sponsors buy troubled assets from the funds. This has happened during periodic financial crises over the years. This year it is estimated some 30 money fund sponsors have bailed out their funds by purchasing declining investments at face value.
Big brokers and other money fund sponsors don’t want their funds to break the buck because a loss of consumer confidence would affect their reputations and future business.