Is Your Money Market Fund Safe?
Lately, I’ve heard the following phrase bandied about the financial press: "Breaking the buck."
Let me tell you that this disturbing saying is one we all need to be concerned about. In fact, we need to be more than just concerned. I think you should start preparing now for the possibility that your money market fund could "break the buck." Let me explain.
The stated cost per share of a money market fund, the place where nearly all of us park our cash, is always technically $1. If you had $10,000 in a money market fund, you would technically hold 10,000 shares of that money market fund.
Frighteningly, while the cost per share of a money market fund is always a buck, it is technically possible that money market fund owners won’t be able to cash those shares in for that same $1 per share. This potentially disastrous situation is what is meant by the phrase breaking the buck.
Well, if the underlying value of the securities that a money market fund company buys falls drastically in value, then you could be looking at a situation where your money market fund is worth less than $1 a share.
Now I acknowledge that this scenario would be highly unusual, since banks and money market fund issuers only invest in highly rated, short-term securities that are virtually immune to price swings.
Still, some money market funds actually have come close to breaking a buck recently, and that has forced a number of big name financial companies to step in and take action to make sure their money market funds are solvent.
Companies such as Bank of America, Legg Mason, SunTrust Banks, U.S. Bancorp, Wachovia and Credit Suisse all have been forced to act in defense of their money market funds. I suspect that we’ll come to learn about many others also doing so as the current credit crunch continues.
While I do not think most money market fund owners have a major reason to panic right now, I do think that if you have a substantial amount of your portfolio in a money market fund you simply MUST be prepared to take action in the event that your money market fund melts down and begins trading under $1.
I am going to go out on a limb and predict that before this current credit crisis is over, at least one money market fund will break the buck. When that first money market fund does fall below $1, there could be a run on that fund and possibly many others, as people scramble to get their capital out of money market funds.
Ask yourself this: What would you do if you woke up one morning and found out your money fund is having problems?
Before you have to live through that uncomfortable scenario, I propose you create your own version of a money market fund fire drill. By preparing now, you will know what to do if your fund breaks the buck.
Here are my three steps to money market fund safety.
- Know how quickly you can you get your money out of your money market fund.
Can you write a check in your money fund? Can you do a wire transfer out of your fund? Can you exchange your money market fund for another kind of investment?
All three of these options are standard ways of getting your money out of a money market fund, but to facilitate a quick exit from your money market fund you have to know which route you are going to take.
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Find out if your fund company offers a Treasury-only money market fund.
If your company offers this safest of money market fund options, know what that fund option is by name, and be prepared to move your money into that fund at a moment’s notice.
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If you have a brokerage account, buy SHY or TLT.
If you are managing your money via a brokerage account, and you have access to exchange-traded funds (ETFs), then two safe alternatives to money market funds are the iShares Lehman 1-3 Year Treasury Bond (SHY) and the iShares Lehman 20+-Year Treasury Bond fund (TLT).
Both of these Treasury bond funds are great alternatives to cash, and with SHY and TLT you stand to get more yield than a money market account. The only downside with these ETFs is that you will have to sell them first to gain access to your cash.
Once again, I don’t want anyone to panic and think they need to take action right now with their money market account. If, however, the credit crisis worsens, and if we hear of a money market fund actually breaking the buck, at least you will be prepared.
Jim Woods is a 30-plus-year veteran of the markets with varied experience as a broker, hedge fund trader, financial writer, author and newsletter editor.
His books include co-authoring, “Billion Dollar Green: Profit from the Eco Revolution,” and “The Wealth Shield: How to Invest and Protect Your Money from Another Stock Market Crash, Financial Crisis or Global Economic Collapse.” He’s also ghostwritten many books and articles, as well as edited content for some of the investment industry’s biggest luminaries. Read more about Jim Woods.
