Money Market Funds: Definition, Features, and Benefits

Money Market Funds can be defined as mutual funds that invest in short-term, high-quality debt securities such as treasury bills (T-Bills), commercial papers, certificate of deposit (CD) and more. The inclusion of these high quality fixed-return investments of money market funds aim to provide high degree of safety and liquidity along with a moderate level of income. A key aspect of money market funds is that they maintain a stable Net Asset Value (NAV) i.e. they have a low level of volatility in the short, medium as well as long term.

Below are some key features of money market funds that one should keep in mind when evaluating these mutual fund schemes:

• **High Quality Investments:** Money market funds invest in a diversified portfolio of high-quality money market securities including but not limited to treasury bills, government securities, certificate of deposits, CBLO, etc.
• **Safety and liquidity:** By investing in stable and secure assets, these funds have a low degree of volatility and easy accessibility for investors.
• **Low Interest rate sensitivity:** Typically, money market schemes invest in instruments that feature a residual maturity of 6 months to 1 year. This limits the potential interest rate sensitivity of a money market fund.

Money market funds are well known for their unique characteristics, drawing a variety of investors. The key characteristics of this type of mutual fund that attract investors are listed below:

While money market funds are considered low-risk investments, it is also equally important for the investors to understand some of the potential risks involved:

• **Interest rate risk: **The returns from money market funds are closely linked to prevailing interest rates. If market interest rates move higher, the returns from money market funds will decline while when
• **Inflation risk: **As money market funds primarily invest in various fixed return instruments, may not be able to keep up with inflation, potentially eroding the real value of your investment over time.
• **Credit risk:** Though uncommon, there may be scenarios where an issuer of security within the fund's portfolio may default. This could lead to a drop in the fund's Net Asset Value.

• **Assess your risk tolerance:** Understanding your risk tolerance will guide your decision-making in choosing the right money market fund for your investment needs.
• **Understand the fund's holdings:** Investigate the securities that the fund invests in to ensure they align with your investment strategy and risk profile.
• **Consider the fees and charges:** Evaluate the fund's expense ratio, management fees, and any other charges that might affect the overall returns.
• **Review past performance:** While past performance is not indicative of future results, analysing historical trends can provide insights into the fund's consistency and stability.

Understanding the taxation of money market funds is essential for strategic financial planning. Let us have a look at how the money market funds are taxed:

• Analyse your financial goals: Identify your short-term financial needs and goals. Money market funds are particularly suitable for emergency funds, short-term savings, and liquidity management.
• Compare various funds: Evaluate various money market funds based on their investment strategy, historical performance, risk profile, and fee structure.
• Monitor regularly: Money market funds are often steady, but it's a good idea to keep an eye on them frequently to make sure your investing plan is still in line with them.
• Consult with a financial expert: Consider seeking professional advice to tailor an investment approach and asset allocation strategy that suits your individual needs and risk tolerance.

When selecting a money market mutual fund scheme to invest in, you should consider the following key factors:

• **Review historical performance:** Although past performance is not indicative of future results, it can provide insight into how the fund has reacted in various market conditions.
• **Assess the fund manager's expertise:** The fund manager's qualifications, experience, and investment approach play a significant role in the potential success of the fund. Research and understanding their philosophy can help in making an informed choice.
• **Consider expenses and fees: ** Expenses and fees can significantly impact the net return on investment. Comparing the expense ratio of different funds and understanding the fee structure is vital.