Last month’s bank failures, combined with a healthy yield advantage over bank deposit accounts, has prompted a “super surge” of assets into money market mutual funds, according to research firm Crane Data.
Money market funds, which invest in very short-term, high-quality debt, in March enjoyed their third-best month of inflows ever, according to Crane, as investors spooked by the banking turmoil poured about $ 345 billion into these funds. While the 25 largest U.S. commercial banks saw deposits climb $ 18 billion in March, smaller banks’ deposits dropped $ 212 billion, according to Federal Reserve data.
The 100 largest taxable money funds tracked by Crane yield more than 4.6% on average, while the average rate on savings accounts nationwide is 0.37%, according to DepositAccounts.com, a unit of LendingTree.
The flood of cash into money market funds, which now have a record of more than $ 5.6 trillion in assets, is a major break from the typical pattern at this time of year, when investors tend to pull cash from money funds to make tax payments. Traditionally, “March and April are the two weakest months of the year” for money funds, said Peter Crane, president of Crane Data. “This is far from normal.”
While the yields and perceived safety of money funds can make them seem a no-brainer, savers seeking to minimize risk while generating a decent return need to sift their cash options carefully, experts say. Money market funds generally aim to maintain a stable $ 1 share price but do not come with federal deposit insurance coverage. The ongoing debate over raising the federal government’s debt limit puts a cloud over money funds that focus on U.S. Treasury securities–generally considered the safest money-fund category. And while tax-exempt money market funds may catch the eye of savers staring down a big tax bill this month, their yields tend to be so volatile that they’re often not worthwhile for anyone outside the highest tax bracket, Crane said. Some banks, meanwhile, have sought to hold on to depositors by offering higher rates amid the recent bank failures–but some of those higher rates have already evaporated.
For savers looking to reap the rewards of the Federal Reserve’s recent interest-rate increases, money market funds have some clear advantages. A recent report from the Federal Reserve Bank of New York illustrates the point. Since March of last year, money fund yields have climbed 4.13 percentage points, or 97% of the increase in the effective federal-funds rate over that period, while the average rate on banks’ three-month certificates of deposit offered to retail customers climbed just 0.32 percentage point, or 8% of the effective federal-funds rate increase, the New York Fed found. Money market funds also offer daily liquidity, allowing savers easy access to their cash.
While money market fund yields generally follow the Fed, tax-exempt money market funds march to a different drummer. Yields on these funds, which hold short-term municipal securities, tend to fluctuate with an index of floating-rate muni instruments and are generally more volatile than taxable money market fund yields. Unless you’re in the highest tax bracket and live in a high-tax state like New York or California, “forget about it,” Crane said. “Nine times out of 10, you’ll be better off in a taxable fund.”
The Congressional standoff over raising the federal government’s debt limit, meanwhile, has raised concerns about money market funds focused on U.S. Treasury securities. Some analysts say the funds could see increased Treasury-market volatility and investor redemptions as the debt-ceiling deadline approaches, although fund managers have some flexibility to avoid securities maturing around the “x date” when the federal government runs short of money to fully pay all bills on time. “If concerns become acute, people could start backing away from Treasury funds and forcing selling,” Crane said. “It argues yet again for diversity” in cash holdings, he said.
The top-yielding online savings accounts offer yields that are very competitive with money market funds and are “ideal for that emergency fund we all need,” said Greg McBride, chief financial analyst at Bankrate.com. High-yield savings accounts from Salem Five Direct, Bask Bank, and UFB Direct, for example, have low or no minimum deposits and offer rates in the upper 4% range.
Customers of the larger banks may need to shop around for the best rates. “The bigger the bank, the more likely they haven’t raised yields,” McBride said. “The banks that have a lot of deposits already don’t need to pay up to bring in more.”
Some of the juicier rates that popped up during last month’s banking turmoil, meanwhile, have already been rolled back, said Ken Tumin, senior industry analyst at LendingTree. Ally Bank, for example, last month offered an 11-month certificate of deposit with a rate of 4.75%, up from 4.0% previously–but in early April, that rate dropped back to 4.35%. Ally did not respond to a request for comment.