When it comes to investing your money, you'll probably know
by now that you have numerous options to choose from.
In fact, it can feel like a bit of a minefield and
sometimes you may not know if you've made the right choice.
Should you choose a bond fund, equity fund, property fund
or a money market cash fund? Or any other type of fund?
So, what is a Money Market fund?
They are essentially unit trusts that aim to provide
investors with an income from risk-free, short-term cash
and cash-like holdings.
Some investors have been selling their share funds and have
opted for security by pouring millions into these types of
funds. In our experience, this type of investor will tend
not to have a proper risk assessed portfolio, rather a
collection of disparate investments, and may be doing it
all themselves.
The money manager of their choice will place this money
into bank deposits, certificates of deposit*, very
short-term fixed interest securities and floating rate
notes**.
Most Money Market funds require relatively low minimum
investments - typically around £500. They are also
quite low-charging, typically with no initial charges and
an annual management fee between 0.25% and 0.50%.
So, in short, these funds are cheap, accessible and low
risk. In these turbulent investment times, what could be
better?
However, if you are paying an annual fee for a Money Market
fund, it would be reasonable to expect that the fund
manager would beat the return available from conventional,
high street savings accounts.
Unfortunately, most Money Market funds aren't performing
better than traditional savings accounts!
Just take a look at their track record performance:
1 year - 3.8%
5 Year - 15.7%
10 Year - 41.2%
Put simply, leading savings deposit accounts would do
similar or better!
So what is going on here?
The problem is that some funds are taking more risk than
others, which drags the averages down. Conventional Money
Market funds invest in deposit accounts and short-term,
high-quality debt. But, lately, some funds have taken to
investing in riskier assets such as lower-grade corporate
(company) debt and longer-term loans.
The idea of course is to generate a better return. The
downside is that defaults are occurring more frequently and
with less liquidity (yet another repercussion of the credit
crunch).
As an example, one leading fund has actually produced a
negative (-3.9%) return over a year. This is worrying,
since these funds are supposed to protect your capital.
So, taking the scope of returns into account, these funds
actually seem quite expensive in terms of running charges.
What's more, the investment strategy of some funds is
hardly low-risk and consequently are all exposed to some
degree of market volatility.
In addition, it is difficult to determine the quality of
the debt instruments your money is being invested in. US
Funds have been feeling the impact of the subprime debt
crisis for some time now, with falling interest rates
putting pressure on returns. So the question is; will it
soon be a similar story in the UK?
Since there are a number of market-leading, easy access
savings accounts that are paying interest rates of 6 - 6.5%
without any market risk at all, then if you are going to
invest in a Money Market Fund, on paper it may NOT be the
best option for your money.
* Certificates of deposit = A time deposit (i.e. a deposit
with a specified maturity) made at a bank which pays fixed
or floating rates of interest. The lender receives a
certificate that a deposit has been made which can then be
sold in the secondary market whenever cash is needed.
** Floating Rate Notes = Bonds and other debt instruments
that carry a variable (i.e. floating) rate of interest,
usually linked to a reference rate such as the LIBOR.
# Source: Investment Management Association, IMA. March
2008.
The Financial Tips Bottom Line
We have written many articles on the folly of 'jumping
ship' and having no clear investment philosophy.
It really can't be stressed enough - be an investor, not a
gambler.
ACTION POINT
If you have a Money Market Fund, review this urgently.
Contact your planner or adviser, and ensure you are getting
the most from your investments.
----------------------------------------------------
Ray Prince is an Independent Financial Planner with
Rutherford Wilkinson plc, and helps UK Resident Doctors and
Dentists get the best deals on mortgages, protection and
investments, as well as helping them achieve their
financial objectives. Just visit
http://www.medicaldentalfs.com to get your free retirement
planning guide. Rutherford Wilkinson plc is authorised and
regulated by the Financial Services Authority.
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