Money Market Mutual Funds

Definition

Money market mutual funds are investment vehicles that pool together short-term, low-risk securities such as government bonds, commercial paper, and certificates of deposit. They provide investors with a safe and liquid way to earn a modest return on their cash holdings.

5 Must Know Facts For Your Next Test

1. Money market mutual funds are included in the M2 money supply measure, as they represent a highly liquid form of savings.
2. These funds aim to maintain a stable net asset value (NAV) of $1 per share, providing investors with a low-risk, cash-equivalent investment.
3. Money market funds typically invest in securities with maturities of 13 months or less, ensuring a high degree of liquidity.
4. Investors can access their money in money market funds quickly, making them a popular choice for short-term cash management.
5. The returns on money market mutual funds are generally lower than those of other investment options, but they offer a safe haven for investors seeking to preserve capital.

Review Questions

• Explain how money market mutual funds are categorized within the M2 money supply measure.
  • Money market mutual funds are included in the M2 money supply measure because they represent a highly liquid form of savings that can be easily converted into cash. As part of the M2 aggregate, these funds are considered a close substitute for currency and checkable deposits, providing investors with a safe and accessible way to earn a modest return on their short-term cash holdings.
• Describe the investment strategies and risk profile of money market mutual funds.
  • Money market mutual funds invest in a diversified portfolio of short-term, low-risk securities such as government bonds, commercial paper, and certificates of deposit. These funds aim to maintain a stable net asset value (NAV) of $1 per share, providing investors with a cash-equivalent investment option that offers a higher yield than traditional savings accounts. While money market funds are generally considered low-risk, they do carry some degree of interest rate risk and credit risk, which can impact their overall returns.
• Analyze the role of money market mutual funds in the broader financial system and their importance for individual investors.
  • Money market mutual funds play a crucial role in the financial system by facilitating short-term lending and borrowing between entities. They provide a safe haven for investors seeking to preserve capital while earning a modest return on their cash holdings. For individual investors, money market funds offer a convenient and liquid way to manage their short-term cash needs, serving as a bridge between savings accounts and riskier investment options. The stability and liquidity of these funds make them an important tool for individuals to maintain financial flexibility and manage their overall portfolio risk.

Related terms

Commercial Paper: Short-term, unsecured debt instruments issued by corporations to finance short-term operational needs.

Certificates of Deposit (CDs): Time deposits held at a bank or other financial institution that pay a fixed rate of interest until maturity.

Money Market: The market for short-term, highly liquid financial instruments used to facilitate lending and borrowing between entities.