Money Market vs. Short-Term Bonds: An Overview
Money market funds and short-term bonds have many similarities, but they also differ in several ways. They're both excellent savings vehicles on a short-term basis. Both are liquid, easily accessible, and relatively safe securities. But these investments can involve fees and they may lose value and decrease an investor's purchasing power.
Key Takeaways
- The money market is part of the fixed-income market that specializes in short-term government debt securities that mature in less than one year.
- Buying a bond is effectively giving the issuer a loan for a set duration; the issuer pays a predetermined interest rate at set intervals until the bond matures.
- Money markets are extremely low risk, with a typical par value of $1.
- Short-term bonds carry a greater degree of risk depending on the issuer, which may be a company, a government, or an agency.
Money Market Securities
The money market is part of the fixed-income market that specializes in short-term debt securities that mature in less than one year. Most money market investments mature in three months or less. These are considered to be cash investments because of their quick maturity dates.
Money market securities are issued by governments, financial institutions, and large corporations as promises to repay debts. They're considered extremely safe and conservative, especially during volatile times. Access to the money market is typically obtained through money market mutual funds or a money market bank account in which thousands of investors are pooled to buy money market securities on the investors’ behalf.
Shares can be bought or sold as desired, often through check-writing privileges. A minimum balance is typically required and a limited number of monthly transactions are allowed. The net asset value (NAV) typically stays around $1 per share, so only the yield fluctuates.
Lower returns are realized when compared to other investments because of the liquidity of the money market.
Purchasing power is limited, especially when inflation increases. A penalty may be assessed if an account drops below a minimum balance or if the number of monthly transactions is exceeded. Fees can take away much of the profit with such limited returns. Shares are not guaranteed by the Federal Deposit Insurance Corporation (FDIC), the National Credit Union Administration (NCUA), or by any other agency unless an account is opened at a bank or credit union.
Short-Term Bonds
Bonds have much in common with money market securities. A bond is issued by a government or corporation as a promise to pay back money borrowed to finance specific projects and activities. More money is necessary than the average bank can provide in such cases, which is why organizations turn to the public for assistance.
Buying a bond effectively means giving the issuer a loan for a set duration. The issuer pays a predetermined interest rate at set intervals until the bond matures. The issuer then pays back the bond’s face value at maturity. A higher interest rate generally means a higher risk of complete repayment with interest.
Most bonds can be bought through a full-service or discount brokerage. Government agencies sell government bonds online and deposit payments electronically. Some financial institutions also transact government securities with their clients.
Short-term bonds can be relatively predictable, low-risk income. Stronger returns can be realized when compared to money markets. Some bonds even come tax-free.
A short-term bond offers a higher potential yield than money market funds. Bonds with quicker maturity rates are also typically less sensitive to increasing or decreasing interest ratesthan other securities. Buying and holding a bond until it's due means receiving the principal and interest according to the stated rate.
The bond owner could lose money if interest rates go up, in the sense of opportunity cost by having the money tied up in the bond rather than invested elsewhere.
What Is the Safest Type of Money Market Fund?
Funds that hold a high concentration of government securities are considered by many to be the safest, particularly if they hold Treasuries, which are backed by the government and therefore carry a lesser risk of default.
What's the Difference Between a Short-Term and a Long-Term Bond?
A short-term bond will typically mature within no more than three years. A long-term bond may not mature until after 10 years. The bond's "coupon" or interest should be paid out a few times a year in either case. Deciding between them can depend on your goals and whether you're investing for the long-term or to achieve something that's on a closer horizon.
Which Is Safer, a Bond or a Money Market Fund?
Bonds carry more risk than money market funds. A bond's lender may not be able to make interest or principal payments on time, or the bond may be paid off early with the remaining interest payments lost. The bond may be called, paid off, and reissued at a lower rate if interest rates go down, resulting in lost income for the bond owner.
The Bottom Line
There are both pros and cons to investing in money market funds and short-term bonds.
Money market accounts are excellent for emergency fundsbecause account values typically remain stable or slightly increase in value. Limited transactions discourage removing funds but the money is nonetheless available when it's needed. Short-term bonds typically yield higher interest rates than money market funds, so the potential to earn more income over time is greater.
Overall, short-term bonds appear to be a better investment than money market funds.
FAQs
Key Takeaways. The money market is part of the fixed-income market that specializes in short-term government debt securities that mature in less than one year. Buying a bond is effectively giving the issuer a loan for a set duration; the issuer pays a predetermined interest rate at set intervals until the bond matures.
Is money market the same as short-term debt? ›
Money market funds invest in high-quality, short-term debt securities, meaning they are generally low risk compared to other mutual funds. Some of the assets you might find in a money market fund include: U.S. Treasury securities. Municipal securities.
Why are short-term bonds better? ›
Bonds with shorter times to maturity are less sensitive to changes in interest rates than longer-term bonds, meaning investors won't suffer as much if rates head higher. Remember, interest rates and bond prices move in opposite directions, so as rates rise, bond prices fall and vice versa.
Are money market funds safer than bonds? ›
As stated above, money market funds are often considered less risky than their stock and bond counterparts. That's because these types of funds typically invest in low-risk vehicles such as certificates of deposit (CDs), Treasury bills (T-Bills), and short-term commercial paper.
Are Treasury bills better than money market funds? ›
Treasury Bills don't pay interest; you purchase them at a discount to par. They mature at the higher price. Money market funds are great but don't offer the same FDIC protections. You'll want to ensure you purchase these from a reputable company.
Should I invest in bonds or money market? ›
Money market funds will generally outperform bonds in a rising interest rate environment. If interest rates are falling or unchanged, an investor will generally experience better performance from owning bonds.
Can a money market fund lose money? ›
All investments are subject to market risk, including possible loss of principal. Retail Money Market Funds: You could lose money by investing in the Fund. Although the Fund seeks to preserve the value of your investment at $1.00 per share, it cannot guarantee it will do so.
How risky are short-term bonds? ›
Short-term bonds can be relatively predictable, low-risk income. Stronger returns can be realized when compared to money markets. Some bonds even come tax-free. A short-term bond offers a higher potential yield than money market funds.
What are the disadvantages of short-term bond funds? ›
Short-Term Bonds: Cons
The main reason not to invest in short-term bond funds is limited returns. Short-term bond funds provide a combination of high liquidity and high security. That makes them very marketable. So organizations don't have to pay very much in order to sell them.
What is the best bond to purchase? ›
9 of the Best Bond ETFs to Buy Now
| Bond ETF | Expense Ratio | Yield to maturity |
|---|
| iShares 0-3 Month Treasury Bond ETF (SGOV) | 0.07% | 5.4% |
| iShares Aaa - A Rated Corporate Bond ETF (QLTA) | 0.15% | 5.3% |
| SPDR Bloomberg High Yield Bond ETF (JNK) | 0.40% | 7.9% |
| Pimco Active Bond ETF (BOND) | 0.55% | 5.8% |
5 more rowsMay 7, 2024
Disadvantages of money market accounts
- Limited transactions. Some accounts limit certain transfers and withdrawals (known as convenient transactions) to six per month, so this isn't the best account for regular banking. ...
- Deposit and balance requirements. ...
- Fees. ...
- High interest rates. ...
- Flexible access. ...
- Federal insurance.
Key takeaways
- Advantages of money market accounts often include high yields, liquidity and federal insurance for your funds. ...
- Disadvantages of money market accounts may include hefty minimum balance requirements and monthly fees — and you might be able to find better yields with other deposit accounts.
The Best Bond ETFs for 2024's Economy
| Ticker | Fund | Expense Ratio |
|---|
| BLV | Vanguard Long-Term Bond ETF | 0.04% |
| ZROZ | PIMCO 25+ Year Zero Coupon US Treasury ETF | 0.15% |
| VCIT | Vanguard Intermediate-Term Corporate Bond ETF | 0.04% |
| IEF | iShares 7-10 Year Treasury Bond ETF | 0.15% |
6 more rowsCDs and Treasurys are both safe, relatively riskless investments. Since CDs are considered deposit accounts, they're covered by Federal Deposit Insurance Corp. (FDIC) insurance, up to $250,000 per depositor, per bank. You can check if a bank is FDIC-insured on the BankFind Suite website.
Which is better, CD or Treasury bond? ›
Key Takeaways. Both certificates of deposit (CDs) and bonds are considered safe-haven investments with modest returns and low risk. When interest rates are high, a CD may yield a better return than a bond. When interest rates are low, a bond may be the higher-paying investment.
What's better, CDs or Treasury bills? ›
Currently, Treasuries maturing in less than a year yield about the same as a CD. Therefore, all things considered, it likely makes more sense to choose Treasuries over CDs, depending on your situation, because of the tax benefits and liquidity when considering very short-term maturities.
What are other names for short term debt? ›
Short-term debt, also called current liabilities, is a firm's financial obligations that are expected to be paid off within a year. Common types of short-term debt include short-term bank loans, accounts payable, wages, lease payments, and income taxes payable.
What is the difference between debt and money market funds? ›
Money Market Funds are debt funds that lend to companies for a period of up to 1 year. These Funds are designed in a manner that allows the fund manager to generate higher returns while keeping risk under control through adjustment of lending duration. Higher loan tenure usually comes with higher returns.
What is short term debt called? ›
Short-term debts are also referred to as current liabilities. They can be seen in the liabilities portion of a company's balance sheet. Short-term debt is contrasted with long-term debt, which refers to debt obligations that are due more than 12 months in the future.
Is money market a market for long-term or short term? ›
The money market is the trade in short-term debt. It is a constant flow of cash between governments, corporations, banks, and financial institutions, borrowing and lending for a term as short as overnight and no longer than a year.
