Understanding the benefits and risks of money market funds

Many investors prefer to invest in short-term debt securities even though they offer relatively lower returns than equity and equity-related instruments. The simple reason is that these investment vehicles have high liquidity and are relatively less impacted by market volatility.
Some of the common debt funds that belong to this category include overnight funds, liquid funds, and money market funds among others. In this article, we will have a close look at the benefits and risks associated with money market funds.

Table of contents

• What are money market funds?
• What are the benefits of investing in money market funds?
• Who should invest in money market funds?
• What are the risks associated with money market funds?
• Why should you invest in Bajaj Finserv Money Market Fund?

What are money market funds?

Mutual funds that invest in debt and money market instruments with a maturity period of up to 12 months are known as money market funds. They are characterised by relatively low volatility and high liquidity over a short investment horizon of 1 year. The fund manager invests in short-term fixed-income instruments such as Treasury Bills, Commercial Papers (CP), Certificates of Deposit (CD), Repurchase Agreements (Repos), and so on.

What are the benefits of investing in money market funds?

Here are the five main advantages of investing in money market funds:

Relatively low volatility: Money market funds can be a suitable option for all types of investors, but they work especially well for conservative investors who are okay with relatively lower returns while keeping their corpus relatively stable.

High liquidity: Like most debt funds, money market funds are characterised by high liquidity. They invest in high-rated debt instruments and have a short maturity period of up to 12 months. Money market funds usually offer relatively better return potential than savings account, but at a comparatively higher risk. Also, since most money market funds do not charge an exit load, you can easily liquidate your investment.

Relatively stable return potential: Money market funds invest in debt and money market instruments such as Certificates of Deposit (CD), treasury bills and so on; thus, you can expect relatively stable returns from your investment.

Low expense ratio: While the actual expense ratio depends on the mutual fund scheme and the Asset Management Company (AMC), money market funds usually have a lower expense ratio as compared to equity funds.

Short investment horizon: If you are just getting started with investing in mutual funds, money market funds can prove to be a suitable starting point for you. They offer relatively low risk and high liquidity over a shorter duration of 12 months. This means that you are free to change your investment strategy at any time without losing money.

Who should invest in money market funds?

Now that you know about the benefits associated with investing in money market funds, you may be wondering if you should invest in them too.

You should invest in money market funds if:

• You are a conservative investor.
• You have an investment horizon of up to 12 months.
• You are looking for an investment option offering low volatility as compared with long term debt funds and high liquidity.
• You want to potentially earn more than the meagre interest rate applicable to a savings account.
• You want to diversify your investment portfolio to balance out the overall risk.

What are the risks associated with money market funds?

The main types of risks associated with investing in money market funds are:

Inflation risk:: In case the inflation is high, the loss of purchasing power is going to affect you if the return from money market funds is less than the inflation rate. This is one of the top reasons why you should diversify your portfolio and try different investment instruments, even as a conservative investor.

Interest rate risk: Interest rate risk measures the impact of changes in rates on the securities held by money market funds. If interest rates increase, the value of a money market fund’s investments generally decreases, and vice versa. Securities with longer maturities usually offer higher yields but have greater interest rate sensitivity.

Credit risk: While the credit risk associated with money market funds is low when compared to many other types of debt mutual funds, it is still higher than savings accounts and fixed deposits.

Why should you invest in Bajaj Finserv Money Market Fund?

The Bajaj Finserv Money Market Fund aims to generate regular income by investing in a portfolio comprising money market instruments. It can generate reasonable returns in comparison to savings accounts and fixed deposit at a higher risk. The scheme carries low-to-moderate risk and offers high liquidity. You can get started with just Rs. 1,000. The best part is that there is no exit load applicable to the Bajaj Finserv Money Market Fund.Finserv Money Market Fund.

In conclusion, you can use money market funds as a tool for portfolio diversification. Whether you are a seasoned investor or a novice, you can consider investing in money market funds since the principal amount is relatively less impacted by market volatility compared with long term debt funds.

FAQs

What are money market funds, and how do they work ?

Money market funds are investment vehicles that primarily invest in short-term, low-risk securities. They aim to provide relative stability and liquidity by investing in instruments like treasury bills and commercial paper.

What are the benefits of investing in money market funds?

Money market funds offer benefits such as relative stability of principal, liquidity, and competitive yields compared to traditional savings accounts. They are suitable for short-term cash management.

What are the risks associated with money market funds?

Risks include interest rate risk, credit risk (the risk of default by issuers), and liquidity risk (when funds face redemption pressures). While they're low-risk/low to moderate risk, returns can vary.

How do money market funds differ from other mutual funds?

Money market funds focus on short-term, low-risk securities, making them relatively less volatile than equity funds. They prioritize relative stability and liquidity over high returns.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
This document should not be treated as endorsement of the views/opinions or as investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.