Friday, April 13, 2007

Money markets

Before I go on, there is two types of money markets you should know. One is called money markets accounts and the other is called money market fund.

What is a money market account? A money market account is a type of savings account offered by banks and credit unions. Usually, money markets have higher interest than regular savings accounts and may also have higher minimum balance requirement. Money market accounts only allow 3-6 withdrawals per month and only up to 3 check writings. All money market accounts are FDIC insured, meaning if anything shall happen to your bank, the government will insure your account up to $100,000.

Like many other bank accounts, your bank may charge you fees such as minimum balance requirement and excess withdrawals fee. There may also be a service charge. You should look around to find a bank that has the lowest fees and the best interest rate.

What is a money market fund? Money market funds are mutual funds that invest in short-term securities such as US Treasury Bills, short-term commercial papers, and CD's. They are offered by financial institutions and investment companies, and some banks. Anytime you see the word "invest" or "investment," you should know that there is no guarantee that your investments will earn money. But money market funds are very low risk mutual funds. The money manager will try to keep the price per share at $1/share. Even though its very rare that you may lose money in money market funds, you should know that the price per share may fall below $1/share. Because they are safe investments, money market funds may not be able to keep up with inflation.

The plus side of having a money market fund is that it pays you dividends almost every month. Dividends are earnings that a mutual fund makes and the mutual fund shares this earning to its shareholders in a form of a dividend. Your money market fund may also earn a higher return than a money market account because money market funds has risks (higher risks = higher rewards), while money market accounts has no risks. Money market funds are not FDIC insured because they are investments.

Similar to money market accounts, money market funds are easily liquidable, meaning you can withdraw money from it and you will get the proceeds in a few days (at most 7 days). Before investing into money market funds, you should obtain the fund's prospectus to find out its fees and expenses. A fund with high annual expenses are never good because it takes away your annual returns.

To sum this up, here is the difference between a money market account (MMA) and a money market fund (MMF):
1) MMA are FDIC insured, while MMF are not.
2) MMA may have bank fees, while MMF have annual operating expenses.
3) MMA pay monthly interest, but MMF may pay monthly dividends.
4) MMA are fixed rate accounts, but can be changed at anytime by the bank. MMF are variable rate accounts because they are base on how the market is doing.

Which one should you pick? Its really up to you, if you want guarantees and want no risks, then pick money market accounts. If you want higher returns and willing to accept some risks, then choose a money market fund.