Does The Lack Of FDIC Insurance Make Money Market Funds A Bad Choice?
By Myles Johnstone
Some people are nervous about money market mutual funds because they are not "insured." Bank accounts, on the other hand, come with insurance that protects up to $100,000 you have deposited in a bank (assuming that your bank participates in the FDIC system). So, if a bank with FDIC insurance fails because it lends too much money to people and companies that go bankrupt or abscond with the funds, you should get your money back (up to $100,000). But consider this: Part of the reason that money market funds are not insured is that they don't really need to be.
Mutual fund companies can't fail because they have a dollar invested in securities for every dollar you deposit in their money funds. Banks, on the other hand, are required to have available just 12 cents for every dollar you hand over to them; no wonder they need insurance. It's possible that a money market fund's investments may decline slightly in value, thus reducing the share price of the money market fund below a dollar.
In a few cases, money market funds have held some securities that ended up tanking. However, in each and every case (except for one, which I discuss in the following paragraph), the money market fund was bailed out, that is, cash was infused into the money fund by the mutual fund company, thus enabling the fund to maintain a price of $1 per share.
One money market fund, however, did "break the buck." A newspaper article dramatically headlined, "Investors Stunned as a Money Fund Folds," went on to say, "The fund's collapse is the latest blunder to shake investors' confidence in the nation's mutual fund industry." Although such hype may help to fill readers with anxiety (and perhaps sell more newspapers), it obscures several important facts. This particular money fund didn't collapse but was liquidated because its investors, who were all small banks, owned the fund, and they decided to disband it. The fund did not hold money from retail investors like you and me. If it had, the fund company surely would have bailed it out, as other fund companies have done. You should also know that only 6 percent of the investing banks' money was lost Hardly a collapse, and I doubt that anyone was stunned!
If you have more than $100,000 in one bank and that bank fails, you can lose the money over the $100,000 insurance limit. I've seen more than a few cases where people had several hundred thousand. Since 1980, more than 1,000 banks have failed. In recent years, because the government has taken a hard line on not going beyond the $100,000 insurance limit, bank depositors have lost hundreds of millions of dollars.
Stick with larger mutual fund companies if you're worried about the lack of FDIC insurance. They have the financial wherewithal and the most incentive to save a floundering money fund. Fortunately, the larger fund companies have the best money funds anyway.
About the Author
Myles Johnstone writes exclusively for finance related sites such as Refinancing Finance Info.com, Vehicle Finance Info.com and finance Solutions info.com
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