The Community Bankers US Government Fund broke the buck in 1994, paying investors 96 cents per share. This was the first failure in the then 23 year history of money funds, and there were no further failures for 14 years. The fund had invested a large percentage of its assets into adjustable rate securities. As interest rates increased, these floating rate securities lost value. This fund was an institutional money fund, not a retail money fund, thus individuals were not directly affected.
No further failures occurred until September 2008, a month that saw tumultuous events for money funds.
On the same day, BNY Institutional Cash Reserves, which was not a money fund, but a securities lending fund run by BNY Mellon, also broke the buck – its NAV fell to 99.1.cents – also due to Lehman holdings.
The resulting investor anxiety almost caused a run on the bank for money funds, as investors redeemed their holdings and funds were forced to liquidate assets or impose limits on redemptions: through Wednesday, institutional funds saw net outflows of $173 billion, to $2.17 trillion, a withdrawal of over 7%. Retail funds saw net inflows of $4 billion, for a net outflow from all funds of $169 billion, to $3.4 trillion (5%). The lack of retail outflows is attributed to the lag required for individuals to open a new account to transfer their funds out, and retail funds expected significant withdrawals the following week.
In response, on Friday, September 19, the United States Treasury announced an optional program to "insure the holdings of any publicly offered eligible money market mutual fund — both retail and institutional — that pays a fee to participate in the program." The insurance will guarantee that if a covered fund breaks the buck, it will be restored to $1 NAV. This program is similar to the FDIC, in that it insures deposit-like holdings, and seeks to prevent runs on the bank. The guarantee is backed by assets of the Treasury Department's Exchange Stabilization Fund up to a maximum of $50 billion.
The program immediately stabilized the system and stanched the outflows, and drew criticism from banking organizations, including the Independent Community Bankers of America and American Bankers Association, who expected funds to drain out of bank deposits and into newly insured money funds, as these latter would combine higher yields with insurance.
The drop in demand resulted in a "buyers strike", as money funds could not (because of redemptions) or would not (because of fear of redemptions) buy commercial paper, driving yields up dramatically: from around 2% the previous week to 8%, and funds put their money in Treasuries, driving their yields close to 0%.
This is a bank run in the sense that there is a mismatch in maturities, and thus a money fund is a "virtual bank": the assets of money funds, while short term, nonetheless typically have maturities of several months, while investors can request redemption at any time, without waiting for obligations to come due. Thus if there is a sudden demand for redemptions, the assets may be liquidated in a fire sale, depressing their sale price.
Banks in the United States offer savings and money market deposit accounts, but these shouldn't be confused with money market mutual funds. These bank accounts offer higher yields than traditional passbook savings accounts, but often with higher minimum balance requirements and limited transactions. A money market account may refer to a money market mutual fund, a bank money market deposit account (MMDA) or a brokerage sweep free credit balance.
Enhanced cash funds will typically invest some of their portfolio in the same assets as money market funds, but others in riskier, higher yielding, less liquid assets such as:
In general, the NAV will stay close to $1, but is expected to fluctuate above and below, and will break the buck more often. Different managers place different emphases on risk versus return in enhanced cash – some consider preservation of principal as paramount, and thus take few risks, while others see these as more bond-like, and an opportunity to increase yield without necessarily preserving principal. These are typically available only to institutional investors, not retail investors.
The purpose of enhanced cash funds is not to replace money markets, but to fit in the continuum between cash and bonds – to provide a higher yielding investment for more permanent cash. That is, within one's asset allocation, one has a continuum between cash and long-term investments:
Enhanced cash funds were developed due to low spreads in traditional cash equivalents.
There are also funds which are billed as "money market funds", but are not 2a-7 funds (do not meet the requirements of the rule). In addition to 2a-7 eligible securities, these funds invest in Eurodollars and repos (repurchase agreements), which are similarly liquid and stable to 2a-7 eligible securities, but are not allowed under the regulations.
Outside of the U.S., the first money market fund was set up in 1968 and was designed for small investors. The fund was called Conta Garantia and was created by John Oswin Schroy. The fund's investments included low denominations of commercial paper.
The largest institutional money fund is the JPMorgan Prime Money Market Fund, with over US$100 billion in assets. Among the largest companies offering institutional money funds are BlackRock, Federated, Columbia (Bank of America), Dreyfus, AIM and Evergreen (Wachovia).
Retail money funds invest in short-term debt, such as US Treasury bills and commercial paper, come in a few different breeds: government-only funds, non-government funds and tax-free funds. Yields are typically somewhat higher than in savings accounts. Investors will obtain a slightly higher yield in the non-government variety, whose principal holdings are high-quality commercial paper and other instruments. Instruments of the United States Government are usually exempt from state income taxes, and their returns are lower as a result.
The largest money market mutual fund is Fidelity Investments' Cash Reserves (Nasdaq:FDRXX), with assets exceeding US$110 billion. The largest retail money fund providers include: Fidelity, Vanguard (Nasdaq:VMMXX), and Schwab (Nasdaq:SWVXX).