Saturday, 27 May 2017

Investopedia: What is a 'Money Market'?

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Money Market

What is a 'Money Market'?

The money market is where financial instruments with high liquidity and very short maturities are traded. It is used by participants as a means for borrowing and lending in the short term, with maturities that usually range from overnight to just under a year. Among the most common money market instruments are eurodollar deposits, negotiable certificates of deposit (CDs), bankers acceptances, U.S. Treasury bills, commercial paper, municipal notes, federal funds and repurchase agreements (repos).


BREAKING DOWN 'Money Market'
Money market transactions are wholesale, meaning that they are for large denominations and take place between financial institutions and companies rather than individuals. Money market funds offer individuals the opportunity to invest smaller amounts in these assets.

Market Participants

Institutions that participate in the money market include banks that lend to one another and to large companies in the eurocurrency and time deposit markets; companies that raise money by selling commercial paper into the market, which can be bought by other companies or funds; and investors who purchase bank CDs as a safe place to park money in the short term.

The U.S. government issues Treasury bills in the money market, and the bills have maturities that range from a few days to one year. Only primary dealers can buy them directly from the government; dealers trade them between themselves and sell retail amounts to individual investors. State, county and municipal governments also issue short term notes.

Commercial paper is a popular borrowing mechanism because it is exempt from SEC registration requirements. It's attractive to corporate investors because rates are higher than for bank time deposits or Treasury bills, and a range of maturities is available, from overnight to 270 days. However, the risk of default is significantly higher for commercial paper than for bank or government instruments.
Money Market Funds

The money market itself is limited to companies and financial institutions that lend and borrow wholesale amounts, which range from $5 million to well over a billion dollars per transaction. Mutual funds offer baskets of these instruments, which are generally considered to be safe, to individual investors. The net asset value (NAV) of such funds is intended to stay at $1, but during the 2008 financial crisis, one fund fell below that level. That triggered market panic and a mass exodus from the funds, which ultimately led to restrictions on them holding higher-yielding investments in order to raise returns.
Capital Market

The money market is different from the capital market, which is the sale and purchase of long-term debt and equity instruments. A discussion of the differences between the two markets is available in the articles Financial Markets: Capital Vs. Money Market and Getting to Know the Money Market.
Money Market Fund
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A money market fund is an investment whose objective is to earn interest for shareholders while maintaining a net asset value (NAV) of $1 per share. A money market fund’s portfolio is comprised of short-term, or less than one year, securities representing high-quality, liquid debt and monetary instruments. Investors can purchase shares of money market funds through mutual funds, brokerage firms and banks.
BREAKING DOWN 'Money Market Fund'
A money market fund's purpose is to provide investors with a safe place to invest easily accessible, cash-equivalent assets. It is a type of mutual fund characterized as a low-risk, low-return investment. Since money market funds have relatively low returns, investors such as those participating in employer-sponsored retirement plans, might not want to use money market funds as a long-term investment option because they will not see the capital appreciation they require to meet their financial goals.

Pros and Cons of Money Market Funds

Aside from being low risk and highly liquid, money market funds may be attractive to investors because they have no loads, which are fees mutual funds may charge for entering or exiting the fund. Some money market funds also provide investors with tax-advantaged gains by investing in municipal securities that are tax-exempt at the federal and/or state level. A money market fund might also hold short-term U.S. Treasury securities, such as T-bills; certificates of deposit (CDs); and corporate commercial paper.
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