Money market funds (MMFs) are investment vehicles for those seeking capital preservation with modest returns, offering a unique blend of stability and liquidity. As interest rates fluctuate and economic uncertainties persist, MMFs have emerged as a popular choice for both individual and institutional investors. 

This article delves into the mechanics of MMFs, exploring their composition, advantages, and potential drawbacks. Keep reading to understand how these funds can complement your investment strategy.

What are money market funds?

MMFs are a type of mutual fund that invests in high-quality, short-term debt instruments and cash equivalents, such as Treasury bills (T-bills), commercial paper, and certificates of deposit. 

They aim to provide investors with a relatively low-risk option for investing excess cash or acting as a diversifier within an investment portfolio, and typically offer higher yields than traditional savings accounts.

What does a money market fund own?

MMFs tend to be carefully structured to maintain stability and liquidity. To achieve these two goals, almost all of a fund's assets are usually invested in cash, government securities, and other highly liquid instruments. 

The weighted average maturity of the portfolio is typically kept under three months to manage interest rate risk. MMFs are made up of money market instruments, which typically include:

• Treasury bills: Treasury bills (T-bills) are a cornerstone of many MMFs. These short-term government debt instruments typically mature in between 3 months and a year. T-bills can be viewed as a safe investment. Taking T-bills in Singapore as example, they are backed by the Singaporean government and providing stable and secure returns for investors. 
• Certificate of deposit (CD): A certificate of deposit is a type of savings account issued by banks in Singapore with specific maturity dates and interest rates. CDs within a money market fund are typically of high quality and short duration, ranging from a few weeks to several months. 

• Commercial paper: Commercial papers are unsecured, short-term corporate debt notes. Within an MMF, commercial papers tend to be issued by companies with high credit scores and may offer a higher yield compared to government securities. That being said, commercial paper is unsecured and is based on the issuing company’s financial conditions.

• Repurchase agreement: A repurchase agreement refers to a short-term borrowing tool where a single party temporarily sells securities to a secondary party with an agreement to buy those securities back in the future. Repurchase agreements provide money market funds with liquidity and grant short-term funding, and can reach maturity overnight. 

• Bills of exchange: A bill of exchange is a short-term negotiable instrument that requires the drawee (usually a bank or a corporation) to pay an amount to the bearer on a specific date. Bills of exchange are highly versatile and can be traded in the secondary market. They tend to be low-risk instruments when issued by reputable banks or corporations.

Some of these instruments require a minimum lot size of at least S$250,000, rendering them inaccessible to many retail investors. MMFs enable them to participate with a much smaller capital, allowing them to invest in these high-quality, short-term debt instruments.

How do money market funds compare to other cash management solutions?

Other popular options to grow your cash include high-interest savings accounts, fixed deposits, T-bills and Singapore Savings Bonds (SSBs). Beyond yields, other factors to consider are your risk tolerance, liquidity needs, investment capital (considering minimum investment sums or limits) and transaction costs.

Advantages of money market funds

MMFs offer diversification across various short-term, high-quality money market instruments, reducing the risk associated with a single issuer. MMFs also offer steady yields with no lock-up period..

With fund managers of the MMFs to manage your investments, this saves you the time and effort to ensure that your money is always optimised, including automatically reinvesting returns. Singapore T-bills, on the other hand, require investors to place bids at the auction. To ensure that your money is always invested, you will need to be diligent in tracking the maturity and auction dates of your T-bills. 

Potential drawbacks of money market funds

While MMFs are generally considered low-risk investments, they are not without drawbacks. In a low-interest-rate environment, yields may not be able to keep pace with inflation. 

Be careful not to over-allocate to MMFs (despite the appeal of lower risks) if you are investing for long-term capital growth. Unlike bank deposits, MMFs are neither capital-guaranteed nor protected by the Singapore Deposit Insurance Corporation (SDIC) as they are considered investment products, not deposits. While rare, an MMF can experience periods of negative returns. 

When considering an MMF, carefully weigh these pros and cons against your financial goals and risk tolerance.

How do money market funds fit into your portfolio in Singapore?

Based on prior studies, Singapore investors allocate an average of 70% of their fund portfolios to money market funds, highlighting their significance in the local market.

MMFs serve as a low-risk component in a diversified portfolio. This conservative approach makes them an ideal choice for:

• Cash management: MMFs generate yields while maintaining liquidity, making them suitable for parking funds temporarily.
• Short-term goals: MMFs offer a relatively stable option for financial objectives within a one- to three-year timeframe.

When determining the appropriate MMF allocation, consider your risk tolerance, investment horizon, and liquidity needs. For conservative investors or those nearing retirement, a larger MMF allocation may be suitable. Conversely, younger investors with a longer time horizon might opt for a smaller MMF component, focusing more on growth-oriented assets.

How to choose the best money market funds in Singapore

Here are a few components you should look at when choosing which MMFs to invest in:

• Fund characteristics: Look at the fund's size and types of investments. Larger funds often benefit from economies of scale, potentially leading to lower expenses. On Endowus Fund Smart, the Fullerton SGD Cash Fund, Lion Global SGD Money Market Fund, and United SGD Money Market Fund offer high liquidity, for example.
  
• Yield and performance: Compare current and historical yields of different MMFs. While past performance doesn't guarantee future results, it can indicate consistency. Find out the latest yields of MMFs on Endowus here.
  
• Risk profile: Assess the fund's credit quality, duration, and diversification. MMFs are generally low-risk, but understanding potential credit and interest rate risks is crucial. Choose a fund that aligns with your risk tolerance and investment horizon.
  
• Fees and accessibility: Even a 1% difference in fees can eat into your returns – always check for the fund's expense ratio and other fees, such as sales or withdrawal fees.

Explore best-in-class money market funds on Endowus 

The Endowus Investment Office has screened and selected best-in-class unit trusts, including MMFs, offered by global asset managers with proven track records. We keep your investment costs low by rebating any trailer fees, which are paid by fund managers to Endowus, to you. 

To start investing in MMFs, learn more about our Cash Smart Portfolios, which are designed with varying allocations to cash funds and MMFs, and short-duration bonds (for Cash Smart Ultra only) to tailor to different needs. Explore our list of money market funds on Fund Smart, if you wish to invest in single funds.