Types of Money Market Fund Instruments

From the perspective of mutual fund investors, money market funds play a vital role in almost every type of portfolio. As the name implies, a money market fund is a mutual fund that invests solely in cash and cash-equivalent securities. These securities – called money market instruments – are highly liquid short-term investments with superb credit quality.

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As a general rule, there are 15 types of money market instruments. For the benefit of mutual fund investors, we’ll break down the universe into following types:

• U.S. Treasury Debt
• U.S. Government Agency Debt
• Municipal Securities
• Commercial Paper
• Repurchase Agreements
• Certificates of Deposit
• Time Deposits
• Other specialized instruments

As of May 31, 2019, money market funds had more than $3.50 trillion in assets under management, according to the U.S. Securities and Exchange Commission. Government money market funds held the majority of the assets, followed by prime, treasury, and municipal funds. The funds are generally broken down into two categories: retail and institutional. Retail mutual funds are targeted toward individual investors, whereas institutional funds can be purchased by companies, pension funds and other entities.

Retail money market funds have the ability to keep a net asset value (NAV) of $1 per share, whereas institutional funds have a floating NAV. In practical terms, this means the price of institutional money market funds can vary day-to-day based on market conditions.

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• U.S. Treasury Debt (i.e. T-Bills)
  This instrument allows the federal government to raise operational cash to cover short-term payments. T-Bills are issued in 4-week, 13-week, 26-week, and one-year durations. A notable example of a T-Bill fund is the Fidelity Intermediate Treasury Bond Index Fund (FIBAX).

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• U.S. Government Agency Debt

This instrument is issued by a government-sponsored enterprise (GSE) or other federal entity such as the Federal National Mortgage Association, Federal Home Loan Bank and the Federal Home Loan Mortgage Corporation, among others. The MFS US Government Money Market Fund (MCMXX) is one such example of this type of fund.

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• Municipal Security

This instrument is issued by cities and states that need to raise cash. Interest payments on these securities are exempt from federal taxes. Municipal notes can be broken down into three categories: Bond Anticipation Notes, Tax Anticipation Notes and Revenue Anticipation Notes. One of the most notable examples is the Vanguard NY Municipal Money Market Fund (VYFXX), which primarily invests in short-term New York municipal securities whose income is exempt from state tax. Check out other funds from Vanguard here.

• Commercial Paper

Large companies with high credit ratings can issue commercial papers to raise the cash they need. These types of securities are considered “short-term unsecured promissory notes” and are the most popular money market funds worldwide. A commercial paper can also be asset-backed, which is short-term debt (45-90 days) backed by collateral.

• Repurchase Agreements

These are used by banks to raise short-term funds. They do this by selling securities and promising to repurchase them in a short period (as early as the next day in most cases). They are bought back with an added interest payment. The State Street Institutional US Govt Money Market Fund (SAMXX) invests in repurchase agreements, among other assets.

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• Certificate of Deposit

Banks and other financial institutions also use Certificates of Deposit (CDs) to raise short-term cash. These securities typically range from one to six months and pay higher interest rates for longer holding periods. Examples include the 6-month CD issued by the Andrews Federal Credit Unit and the four-year Hanscom Federal Credit Union.

• Time Deposit

A time deposit is a money market fund that falls under the realm of futures contracts. A futures contract requires that a trader either buy or sell a money market fund at an agreed-upon price on a pre-specified date in the future. The most common types of futures contracts are the 13-week Treasury bills, three-month euro time deposits, one-month euro time deposits and a 30-day average of the Federal Funds rate.

• Other Specialized Instruments

There are several other specialized instruments that fall under the domain of money market funds. Chief among them is the tender option bond (TOB), which is a structured product held in the form of a trust fund. In the case of a TOB, two types of securities are issued: Short-term floating rate and inverse floating rate. You can learn more about the tender option bonds structure here.

Other specialized instruments include a Non-Financial Company Commercial Paper, which is a commercial paper issued by public utilities, services and industrial companies, as well as an Insurance Company Funding Agreement, which is a deposit-type contract that guarantees specific returns over a pre-specified period.

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Since money market funds are part of the U.S. money supply, they represent a vital component of the financial system. As we know, the size of the money supply has direct implications on interest rates and the overall economy. Even if you’re not invested in money market funds, it pays to know how they function.

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