Make cash work harder
Money market funds offer greater efficiency and sophistication in addressing the challenges of cash management, boosting returns, without compromising liquidity or security.
Cash is an important asset class in any investment portfolio. The aim of money market funds is to make cash work harder for investors by pooling assets across a number of high-quality money market instruments with the aim of obtaining the highest possible return. Detailed credit analysis and market surveillance are used to ensure that investment risks are minimised, while the pooled nature of the funds means that investors are not exposed to the balance-sheet risk of individual banks and custodians. In fact, because the counterparties are the underlying assets of the funds, investors can achieve a spread of counterparty risk through a single investment. Application Money market funds are free to invest in longer-dated securities to increase the yields that they can pay to their shareholders. Banks often also use cash deposits to invest in longer-maturity instruments but, unlike money market funds, the profit from these investments goes straight to the bank itself and not to deposit holders. As a result, money market funds can produce significantly higher levels of return than those offered by the average bank account. Additionally, for stable account balances where liquidity needs are less demanding, enhanced money market funds can be used to further increase returns. Enhanced money market funds invest in longer-duration assets, perhaps up to as many as 360 days, to boost yields but maintain high levels of liquidity and security. Therefore, both standard money market funds and enhanced yield funds are complimentary and are designed to help you to manage your clients’ cash in the most efficient manner. Higher returns do not come at the expense of either security or liquidity, however. Providers always keep a substantial level of holdings in short-term or overnight instruments to maintain high levels of liquidity, while they carry out detailed credit analysis and market surveillance to ensure that investment risks are minimised. In addition, the pooled nature of the funds means that investors are not exposed to the balance sheet risk of individual banks and custodians. Benefits This structure and level of diversification means that money market funds can achieve the highest credit ratings from Moody’s and Standard & Poor’s – in contrast to the banking sector, which has recently slipped down the credit scale following several high-profile banking collapses in the 1990s. Therefore, by pooling cash in a money market fund, investors can achieve higher levels of diversification and security than are available through bank deposit accounts. Security is highly important but bank deposit investors pay for lower credit risk with lower interest rates. In contrast, thanks to the pooled diversification of credit risk in money market funds and the ability of fund providers to carry out rigorous research to assess risk themselves, many money market funds are able to achieve the maximum AAA Moody’s rating. But, whereas bank deposits offer lower interest rates as credit ratings increase, liquidity funds can offer higher levels of interest than those available from the banks by extending the maturities of some of the investments that they hold. Also, active money market managers can further boost yields by seeking out the best risk-adjusted returns. Money market funds offer other advantages, in terms of pricing and tax status, which can help further enhance client options. They can offer same-day settlement and late dealing deadlines so that investors can gain access to their cash when they need it, while shares are often priced at “constant net asset value”, which means that the funds operate in the same way as a bank deposit. Income is compounded daily and paid monthly, and can be taken as cash dividends or reinvested in new shares. Alternatively, some liquidity funds offer accumulation (or “roll up”) shares, whereby income is accrued daily but not distributed. Instead, the income is rolled up in the fund, providing some investors with possible tax deferral opportunities. Either way, this flexibility adds to the advantages of liquidity funds over cash deposits, which can be useful when considering client tax implications. An additional appeal of money market funds is the enormous cost-efficiency saving they can give to portfolio managers who use them to outsource their cash management responsibilities. Money market providers have large resources and experienced cash managers dedicated to providing clients with the best possible cash returns. However, many providers offer further services to improve the efficient management of cash, including instant liquidity without penalty, late cut-off times and the automatic sweeping of uninvested cash to ensure that all money is optimally invested at the end of each business day. Here, at JPMorgan Fleming Asset Management, we have also pioneered the Global Cash Portal, which gives investors access to their accounts using the Internet, including the ability to transact online.
