Definition of 'Money Market'

One of the sections of a financial market where securities and financial instruments with short-term maturities are traded is called the money market.

Definition:One of the sections of a financial market where securities and financial instruments with short-term maturities are traded is called the money market. Financial assets like treasury bills, certificates of deposits, commercial paper and bankers' acceptance are some of the short-term debt securities traded in the money market.

Description:The instruments traded in the money market have a short-term maturity period ranging from 30 days to a year. Hence this market is the best source to invest in liquid assets.

The only demerit accompanying the money market is the disorganization. Unlike organized markets, e.g. capital markets, the money market is unregulated and informal. In addition, this market gives lesser returns to the investor. However, the money market is regarded as safe.

Asmoneybecame acommodity, themoney marketbecame a component of thefinancial marketsfor assets involved in short-termborrowing,lending, buying and selling with original maturities of one year or less. Trading in the money markets is doneover the counterand iswholesale. Various instruments exist, such asTreasury bills,commercial paper,bankers' acceptances,deposits,certificates of deposit,bills of exchange,repurchase agreements, federal funds, and short-livedmortgage-, andasset-backed securities.[1]It providesliquidityfunding for theglobal financial system. Money markets andcapital marketsare parts offinancial markets. The instruments bear differing maturities, currencies, credit risks, and structure. Therefore they may be used to distribute the exposure.[2]

History[edit]The money market developed because there are parties that had surplus funds, while others needed cash.[3][4]Today it comprises cash instruments as well.Participants[edit]The money market consists offinancial institutionsand dealers in money or credit who wish to either borrow or lend. Participants borrow and lend for short periods of time, typically up to thirteen months. Money market trades in short-termfinancial instrumentscommonly called "paper." This contrasts with thecapital marketfor longer-term funding, which is supplied bybondsandequity.The core of the money market consists ofinterbank lendingbanks borrowing and lending to each other usingcommercial paper,repurchase agreementsand similar instruments. These instruments are often benchmarked to (i.e. priced by reference to) theLondon Interbank Offered Rate(LIBOR) for the appropriate term and currency.Finance companies typically fund themselves by issuing large amounts ofasset-backed commercial paper(ABCP) which is secured by thepledgeof eligible assets into an ABCP conduit. Examples of eligible assets include auto loans, credit card receivables, residential/commercial mortgage loans,mortgage-backed securitiesand similar financial assets. Certain large corporations with strongcredit ratings, such asGeneral Electric, issue commercial paper on their own credit. Other large corporations arrange for banks to issue commercial paper on their behalf via commercial paper lines.In the United States, federal, state and local governments all issue paper to meet funding needs. States and local governments issuemunicipal paper, while theUS TreasuryissuesTreasury billsto fund theUS public debt: Trading companies often purchasebankers' acceptancesto be tendered for payment to overseas suppliers. Retail and institutional money market funds Banks Central banks Cash management programs Merchant banksFunctions of the money market[edit]The money market functions are:[5][6] Transfer of large sums of money Transfer from parties with surplus funds to parties with a deficit Allow governments to raise funds Help to implement monetary policy Determine short-term interest ratesCommon money market instruments[edit] Certificate of deposit- Time deposit, commonly offered to consumers by banks, thrift institutions, and credit unions. Repurchase agreements- Short-term loansnormally for less than two weeks and frequently for one dayarranged by selling securities to an investor with an agreement to repurchase them at a fixed price on a fixed date. Commercial paper- short term usanse promissory notes issued by company at discount to face value and redeemed at face value Eurodollar deposit- Deposits made in U.S. dollars at a bank or bank branch located outside the United States. Federal agency short-term securities - (in the U.S.). Short-term securities issued bygovernment sponsored enterprisessuch as theFarm Credit System, theFederal Home Loan Banksand theFederal National Mortgage Association. Federal funds- (in the U.S.). Interest-bearing deposits held by banks and other depository institutions at theFederal Reserve; these are immediately available funds that institutions borrow or lend, usually on an overnight basis. They are lent for thefederal funds rate. Municipal notes- (in the U.S.). Short-term notes issued by municipalities in anticipation of tax receipts or other revenues. Treasury bills- Short-term debt obligations of a national government that are issued to mature in three to twelve months. Money funds- Pooled short maturity, high quality investments which buy money market securities on behalf of retail or institutional investors. Foreign Exchange Swaps- Exchanging a set of currencies in spot date and the reversal of the exchange of currencies at a predetermined time in the future. Short-livedmortgage-andasset-backed securitiesDiscount and accrual instruments[edit]There are two types of instruments in the fixed income market that pay the interest at maturity, instead of paying it as coupons.Discount instruments, like repurchase agreements, are issued at a discount of the face value, and their maturity value is the face value.Accrual instrumentsare issued at the face value and mature at the face value plus interest.[7]

Investopedia explains 'Money Market'

The money market is used by a wide array of participants, from a company raising money by selling commercial paper into the market to an investor purchasing CDs as a safe place to park money in the short term. The money market is typically seen as a safe place to put money due the highly liquid nature of the securities and short maturities, but there are risks in the market that any investor needs to be aware of including the risk of default on securities such as commercial paper.

The money market is different from the capital market. The differences can be read in the articleFinancial Markets: Capital Vs. Money MarketandGetting to Know the Money Market.

Amoney market accountis a type of savings account offered bybanksandcredit unionsjust like regular savings accounts. The difference is that they usually pay higherinterest, have higher minimum balance requirements (sometimes $1000-$2500), and only allow three to six withdrawals per month. Another difference is that, similar to a checking account, many money market accounts will let you write up to three checks each month.With bank accounts, the money in a money market account is insured by theFederal Deposit Insurance Corporation(FDIC), which means that even if the bank or credit union goes out of business, your money will still be there. The FDIC is an independent agency of the federal government that was created in 1933 because thousands of banks had failed in the 1920s and early 1930s. Not a single person has lost money in a bank or credit union that was insured by the FDIC since it began. With credit unions, the money in a money market account is insured by theNational Credit Union Administration(NCUA), a federal agency.Chances are you've heard the term before, but what exactly is themoney market? It is the organized exchange on which participants can lend and borrow large sums of money for a period of one year or less. While it is an extremely efficient arena for businesses, governments, banks, and other large institutions to transact funds, the money market also provides an important service to individuals who want to invest smaller amounts while enjoying perhaps the bestliquidityand safety found anywhere. Here we look at some of the most popular types of money market instruments and the benefits they offer to the individual investor.

Purposes of the Money MarketIndividuals will invest in the money market for much the same reason that a business or government will lend or borrow funds in the money market: sometimes the need for funds does not coincide with having them. For example, if you find you have a certain sum of money that you do not immediately need (to pay down debt, for example), then you may choose to invest those funds temporarily, until you need them to make some other, longer-term investment, or a purchase. If you decide to hold these funds in cash, theopportunity costthat you incur is the interest that you could have received by investing your funds. If you do invest your funds in the money market, you can quickly and easily secure this interest.

The major attributes that will draw an investor to short-term money market instruments are superior safety and liquidity. Money market instruments havematuritiesthat range from one day to one year, but they are most often three months or less. Because these investments are associated with massive and actively-tradedsecondary markets, you can almost always sell them prior to maturity, albeit at the price of forgoing the interest you would have gained by holding them until maturity.

The secondary money market has no centralized location. The closest thing the money market has to a physical presence is an arbitrary association with the city of New York; although, the money market is accessible from anywhere by telephone. Most individual investors participate in the money market with the assistance (and experience) of their financial advisor, accountant or banking institution.

Types of Money Market InstrumentsA large number of financial instruments have been created for the purposes of short-term lending and borrowing. Many of these money market instruments are quite specialized, and they are typically traded only by those with intimate knowledge of the money market, such as banks and large financial institutions. Some examples of these specialized instruments are federal funds,discount window,negotiable certificates of deposit(NCDs), eurodollar time deposits,repurchase agreements, government-sponsored enterprise securities, shares in money market instruments, futures contracts, futures options, and swaps.

Aside from these specialized instruments on the money market are the investment vehicles with which individual investors will be more familiar, such as short-term investment pools (STIPs) and money market mutual funds,Treasury bills, short-term municipal securities,commercial paper, andbankers' acceptances. Here we take a closer look at STIPs, money market mutual funds, and Treasury bills.

How to find the best credit card for your lifestyle.Short-Term Investment Pools (STIPs) and Money Market Mutual FundsShort-term investment pools (STIPs) include money market mutual funds, local government investment pools, and short-term investment funds of bank trust departments. All STIPs are sold as shares in very large pools of money market instruments, which may include any or all of the money market instruments mentioned above. In other words, STIPs are a convenient means of cumulating various money market products into one product, just as anequityorfixed incomemutual fund brings together a variety of stocks, bonds, and so forth. STIPs make specialized money market instruments accessible to individual investors without requiring an intimate knowledge of the various instruments contained within the pool. STIPs also alleviate the large minimum investment amounts required to purchase most money market instruments, which generally equal or exceed $100,000.

Of the three main types of STIPs, money market mutual funds are the most accessible to individuals. These funds are offered by brokerage companies and mutual fund firms, which sell shares in these funds to their individual, corporate and institutional investors. Short-term investment funds are operated by bank trust departments for their various trust accounts. Local government investment pools are established by state governments on behalf of their local governments, allowing investors to purchase shares of local government investment funds.

Money market mutual funds are further divided into two categories: taxable funds and tax-exempt funds. Taxable funds place investments in securities such as Treasury bills and commercial papers that pay interest income that is subject to federal taxation once it is paid to the fund purchaser. Tax-exempt funds invest in securities issued by state and local governments that are exempt from federal taxation. These two categories of money market mutual funds provide different patterns of growth, each of which attracts different types of investors. (For more, seeMoney Market Mutual Funds,The Money Market: A Look BackandThe Money Markettutorial.)

Treasury Bills (T-Bills)Treasury bills, commonly known as "T-bills," are short-term securities issued by theU.S. Treasuryon a regular basis to refinance earlier T-bill issues reaching maturity, and to help finance federal government deficits. Of all money market instruments, T-bills have the largest total dollar value outstanding--a sum that as of 2004 exceeded $650 billion. In addition to scheduling regular sales of T-Bills, the Treasury also sells instruments called cash management bills on an irregular basis, by re-opening the sales of bills that mature on the same date as an outstanding issue of bills.

When T-bills were initially conceived, they were given three-month maturities exclusively; but bills with six-month and one-year maturities were subsequently added. Three-month and six-month bills sell in the regular weekly auctions, and another bill auction takes place every four weeks for the sale of one-year bills.

T-bills are sold through the commercial book-entry system to large investors and institutions, which then distribute those bills to their own clients, which may include individual investors. An alternative is Treasury Direct, which is run as a non-competitive holding system designed for small investors who plan to hold their securities until maturity. Individual bidders on Treasury Direct have their ownership recorded directly in book-entry accounts at the Department of the Treasury. If an investor purchases T-bills through the Treasury Direct system and wishes to sell them prior to maturity, he or she must transfer them to the commercial book-entry system. The transfer can be arranged only through a depository institution that holds an account at aFederal Reserve Bank; the person making the transfer is required to pay applicable transfer fees.

ConclusionWhen an individual investor builds a portfolio of financial instruments and securities, he or she typically allocates a certain percentage of funds towards the safest and most liquid vehicle available: cash. This cash component may sit in his or her investment account in purely liquid funds, just as it would if deposited into a bank savings or checking account. However, investors are much better off placing the cash component of their portfolios into the money market, which offers interest income while still retaining the safety and liquidity of cash. Many money market instruments are available to investors, most simply through well-diversified money market mutual funds. Should investors be willing to go it alone, there are other money market investment opportunities, most notably in purchasing T-bills through Treasury Direct.

Money Market InstrumentsThe money market is the arena in which financial institutions make available to a broad range of borrowers and investors the opportunity to buy and sell various forms of short-term securities. There is no physical "money market." Instead it is an informal network of banks and traders linked by telephones, fax machines, and computers. Money markets exist both in the United States and abroad.The short-term debts and securities sold on the money marketswhich are known as money market instrumentshave maturities ranging from one day to one year and are extremely liquid. Treasury bills, federal agency notes, certificates of deposit (CDs), eurodollar deposits, commercial paper, bankers' acceptances, and repurchase agreements are examples of instruments. The suppliers of funds for money market instruments are institutions and individuals with a preference for the highest liquidity and the lowest risk.The money market is important for businesses because it allows companies with a temporary cash surplus to invest in short-term securities; conversely, companies with a temporary cash shortfall can sell securities or borrow funds on a short-term basis. In essence the market acts as a repository for short-term funds. Large corporations generally handle their own short-term financial transactions; they participate in the market through dealers. Small businesses, on the other hand, often choose to invest in money-market funds, which are professionally managed mutual funds consisting only of short-term securities.Although securities purchased on the money market carry less risk than long-term debt, they are still not entirely risk free. After all, banks do sometimes fail, and the fortunes of companies can change rather rapidly. The low risk is associated with lender selectivity. The lender who offers funds with almost instant maturities ("tomorrow") cannot spend too much time qualifying borrowers and thus selects only blue-chip borrowers. Repayment therefore is assured (unless you caught Enron just before it suddenly nose-dived). Borrowers with fewer credentials, of course, have difficult getting money from this market unless it is through well-established funds.TYPES OF MONEY MARKET INSTRUMENTSTreasury BillsTreasury bills (T-bills) are short-term notes issued by the U.S. government. They come in three different lengths to maturity: 90, 180, and 360 days. The two shorter types are auctioned on a weekly basis, while the annual types are auctioned monthly. T-bills can be purchased directly through the auctions or indirectly through the secondary market. Purchasers of T-bills at auction can enter a competitive bid (although this method entails a risk that the bills may not be made available at the bid price) or a noncompetitive bid. T-bills for noncompetitive bids are supplied at the average price of all successful competitive bids.Federal Agency NotesSome agencies of the federal government issue both short-term and long-term obligations, including the loan agencies Fannie Mae and Sallie Mae. These obligations are not generally backed by the government, so they offer a slightly higher yield than T-bills, but the risk of default is still very small. Agency securities are actively traded, but are not quite as marketable as T-bills. Corporations are major purchasers of this type of money market instrument.Short-Term Tax ExemptsThese instruments are short-term notes issued by state and municipal governments. Although they carry somewhat more risk than T-bills and tend to be less negotiable, they feature the added benefit that the interest is not subject to federal income tax. For this reason, corporations find that the lower yield is worthwhile on this type of short-term investment.Certificates of DepositCertificates of deposit (CDs) are certificates issued by a federally chartered bank against deposited funds that earn a specified return for a definite period of time. They are one of several types of interest-bearing "time deposits" offered by banks. An individual or company lends the bank a certain amount of money for a fixed period of time, and in exchange the bank agrees to repay the money with specified interest at the end of the time period. The certificate constitutes the bank's agreement to repay the loan. The maturity rates on CDs range from 30 days to six months or longer, and the amount of the face value can vary greatly as well. There is usually a penalty for early withdrawal of funds, but some types of CDs can be sold to another investor if the original purchaser needs access to the money before the maturity date.Large denomination (jumbo) CDs of $100,000 or more are generally negotiable and pay higher interest rates than smaller denominations. However, such certificates are only insured by the FDIC up to $100,000. There are also eurodollar CDs; they are negotiable certificates issued against U.S. dollar obligations in a foreign branch of a domestic bank. Brokerage firms have a nationwide pool of bank CDs and receive a fee for selling them. Since brokers deal in large sums, brokered CDs generally pay higher interest rates and offer greater liquidity than CDs purchased directly from a bank.Commercial PaperCommercial paper refers to unsecured short-term promissory notes issued by financial and nonfinancial corporations. Commercial paper has maturities of up to 270 days (the maximum allowed without SEC registration requirement). Dollar volume for commercial paper exceeds the amount of any money market instrument other than T-bills. It is typically issued by large, credit-worthy corporations with unused lines of bank credit and therefore carries low default risk.Standard and Poor's and Moody's provide ratings of commercial paper. The highest ratings are A1 and P1, respectively. A2 and P2 paper is considered high quality, but usually indicates that the issuing corporation is smaller or more debt burdened than A1 and P1 companies. Issuers earning the lowest ratings find few willing investors.Unlike some other types of money-market instruments, in which banks act as intermediaries between buyers and sellers, commercial paper is issued directly by well-established companies, as well as by financial institutions. Banks may act as agents in the transaction, but they assume no principal position and are in no way obligated with respect to repayment of the commercial paper. Companies may also sell commercial paper through dealers who charge a fee and arrange for the transfer of the funds from the lender to the borrower.Bankers' AcceptancesA banker's acceptance is an instruments produced by a nonfinancial corporation but in the name of a bank. It is document indicating that such-and-such bank shall pay the face amount of the instrument at some future time. The bank accepts this instrument, in effect acting as a guarantor. To be sure the bank does so because it considers the writer to be credit-worthy. Bankers' acceptances are generally used to finance foreign trade, although they also arise when companies purchase goods on credit or need to finance inventory. The maturity of acceptances ranges from one to six months.Repurchase AgreementsRepurchase agreementsalso known as repos or buybacksare Treasury securities that are purchased from a dealer with the agreement that they will be sold back at a future date for a higher price. These agreements are the most liquid of all money market investments, ranging from 24 hours to several months. In fact, they are very similar to bank deposit accounts, and many corporations arrange for their banks to transfer excess cash to such funds automatically.BIBLIOGRAPHYFabozzi, Frank J., Steven V. Mann, and Moorad Choudhry.The Global Money Markets. John Wiley and Sons, 2002.Levinson, Marc.Guide to Financial Markets. Bloomberg Press, 2003.Madura, Jeff.Financial Markets and Instruments. Thomson South-Western, 2006.

What Are Money Markets?FINANCE & DEVELOPMENT,June 2012, Vol. 49, No. 2Randall DoddPDF versionThey provide a means for lenders and borrowers to satisfy their short-term financial needsUNTIL problems surfaced during the global financial crisis, money markets were often taken for granted as plain-vanilla, low-volatility segments of the financial system.For the most part, money markets provide those with fundsbanks, money managers, and retail investorsa means for safe, liquid, short-term investments, and they offer borrowersbanks, broker-dealers, hedge funds, and nonfinancial corporationsaccess to low-cost funds. The term money market is an umbrella that covers several market types, which vary according to the needs of the lenders and borrowers.One consequence of the financial crisis has been to focus attention on the differences among various segments of money markets, because some proved to be fragile, whereas others exhibited a good deal of resilience.For the short termThese markets are described as money markets because the assets that are bought and sold are short termwith maturities ranging from a day to a yearand normally are easily convertible into cash. Money markets include markets for such instruments as bank accounts, including term certificates of deposit; interbank loans (loans between banks); money market mutual funds; commercial paper; Treasury bills; and securities lending and repurchase agreements (repos). These markets comprise a large share of the financial systemin the United States, accounting for about one-third of all credit, according to the Federal Reserve Boards Flow of Funds Survey.These money market instruments, many of them securities, differ in how they are traded and are treated under financial regulatory laws as well as in how much a lender relies on the value of underlying collateral, rather than on an assessment of the borrower.The most familiar money market instruments are bank deposits, which are not considered securities, even though certificates of deposit are sometimes traded like securities. Depositors, who are lending money to the bank, look to the institutions creditworthiness, as well as to any government programs that insure bank deposits.Interbank loans are not secured by collateral, so a lender looks exclusively to a borrowers creditworthiness to assess repayment probabilities. The most closely watched interbank market is in England, where the London interbank offered rate (LIBOR) is determined daily and represents the average price at which major banks are willing to lend to each other. That market did not prove to be a reliable source of funding during the crisis. LIBOR rates rose sharply in comparison to other money market rates once the creditworthiness of banks was called into question. Moreover, lending volume decreased significantly as banks struggled to fund their existing assets and were less interested in new lending. Emergency lending by central banks helped make up for the contraction of this funding source. Recent investigations by regulatory authorities have also called into question the integrity of the pricing process by which LIBOR is determined.Commercial paper is a promissory note (an unsecured debt) issued by highly rated banks and some large nonfinancial corporations. Because the instrument is unsecured (no more than a promise to pay, hence the name), investors look solely to the creditworthiness of the issuer for repayment of their savings. Commercial paper is issued and traded like a security. But because it is short term by nature and not purchased by retail investors, it is exempt from most securities laws. In the United States, for example, commercial paper is issued in maturities of 1 to 270 days, and in denominations that are deemed too large for retail investors (typically $1 million, but sometimes as small as $10,000).The safest investmentTreasury bills, which are issued by the government, are securities with maturities of less than a year. U.S. Treasury bills, sold at a discount from face value and actively bought and sold after they are issued, are the safest instrument in which to place short-term savings. The markets are deep and liquid, and trading is covered by securities laws. U.S. Treasury bills are not only savings instruments; they can be used to settle transactions. Treasury bills, which are issued electronically, can be sent through the payments system as readily as money.Repos are an important large, but more complicated, segment of money markets. Repos offer competitive interest rates for borrowing and lending on a short-term basisusually no more than two weeks and often overnight. A borrower sells a security it owns for cash and agrees to buy it back from the purchaser (who is in effect a lender) at a specified date and at a price that reflects the interest charge for borrowing over the period. The security at the heart of the transaction serves as collateral for the lender.Besides making possible secure short-term borrowing and lending in money markets, repo and other securities lending markets are critical to short-sellingwhen a trader agrees to sell a security he or she does not own. To come up with such a security, the short-seller must borrow it or purchase it temporarily through a repo transaction. When it is time to return the security to the lender, the short-seller again must buy or borrow it. If the price has fallen, the short-seller makes money on the transaction.Money market mutual funds (MMMFs) are securities offered by companies that invest in other money market instrumentssuch as commercial paper, certificates of deposit, Treasury bills, and repos. Money market mutual funds are regulated as investment companies in the United States and in the European Union. They offer low-risk return on a short-term investment to retail and institutional investors as well as corporations. A typical MMMF invests in liquid, short-term, highly rated instruments. Although the price is not fixed or guaranteed, the fund is managed so that the price is constantor in securities parlance, maintains a stable net asset value, usually $1 a share. (This is in contrast to other mutual funds that invest in stocks or bonds and whose per share value changes daily.) If the value of the underlying MMMF assets rises above $1 a share, the difference is paid as interest. Until the global crisis, a money market fund with a net value of less than $1 a shareor breaking the buck, as it is calledwas almost unheard of. The few times it happened, the funds investment managers used their own resources to keep the price at $1 a share.But during the financial crisis, money market funds were threatened by losses on commercial paper and later on notes issued by Lehman Brothers (the broker-dealer that went bankrupt in September 2008). Because MMMFs are important players in other crucial money markets, the U.S. government acted to prevent a panic that might have caused the credit contraction to spread. The U.S. Treasury guaranteed principal and the Federal Reserve created a special lending facility for commercial paper to help MMMFs stave off a run by investors.Dysfunctional marketsThere are some other sectors of the money market that are not so plain and simple. These include asset-backed commercial paper (ABCP) and certain triparty repo transactions.A firm with hard-to-sell (illiquid) financial assets, such as loans, mortgages, or receivables, might use ABCP to borrow at a lower cost or to move these assets off its balance sheet. It creates a special purpose entity that purchases the illiquid assets from the firm and finances the purchase by issuing ABCP, whichunlike normal commercial paperis secured or backed by the underlying assets. This type of commercial paper can obtain a high credit rating if the assets are rated highly and if the special facility has adequate capital and lines of credit. The capital is intended to cover unexpected losses on the assets, and the lines of credit take into account the difficulty of selling the underlying assets to meet cash needs.Some parts of the ABCP market had problems during the crisis. Standard commercial paper issuersalmost exclusively large nonfinancial corporations and banksfile quarterly financial statements that enabled investors to easily assess their credit condition. The credit risk on ABCP depended on, among other things, how the special purpose entity was set up, its credit enhancements, its liquidity backstop, and the value of the underlying assetsall likely to be less transparent and more complex than that of the straightforward commercial paper. In the United States, the ABCP market shrunk by 38 percent from August to November 2008.That hit the MMMF market, which holds more than one-third of outstanding commercial paper. When investors began to withdraw funds from MMMFs, the funds pivoted sharply away from ABCP and into government and agency securities.The triparty repo market proved to be much less reliable than the ordinary repo market for Treasury and agency securities. The triparty repo market is organized around one or two clearing banks that hold the collateral and transfer ownership from borrower to lender and back again when the loan is repaid.The triparty repo market was roiled by the collapse of markets for privately issued securities backed by mortgages. These securities made up a large share of the collateral in the triparty repo market. Once the market value and the credit ratings of these securities fell and the trading in these securities dried up, the triparty market suffered from both the higher haircuts (the percentage by which a lender reduces the value of a security for collateral purposes) needed to offset the volatility in the securitized debt market and the difficulty of pricing collateral that no longer had a market price.Together the crises in the ABCP and triparty repo markets spread funding problems to banks, securities firms, and hedge funds that had used these money markets to fund investments. Today those markets have shrunk dramatically.

A money-market fund invests in "cash equivalents" - typically super-short-term loans to creditworthy corporate or government borrowers. People often invest the "cash" portion of their retirement portfolio, if any, in money-market funds. (Other cash investments include certificates of deposit and bank savings accounts.)Though money-market funds are very safe, their long-term returns are lower than those for bonds, and much lower than those for stocks. So they're best for older investors who are looking more for safety than for growth.Some money-market funds are taxable; others are exempt from federal income tax (and some are exempt from state and local taxes, too) because of what they invest in. Generally, tax-exempt funds pay lower yields than taxable funds do. But if you have the fund in a taxable account and you're in a high tax bracket, you can come out ahead with a tax-exempt fund.

Free checking accounts are wonderful because you get a lot of features for free. However, you have to give up a very important feature: earnings on your free checking account balance. For those of us who want to earn a little extra, there is a way to earn interest and still have a free checking account.Step 1: Open a Free Checking AccountTake your pick on free checking accounts. Your local banks and credit unions probably have whatever mix of features and benefits are best for you. The most important thing is to know that the free checking account you open will not have fees associated with ACH (Automated Clearing House) transfers. Ask the customer service representative about this.Step 2: Open a No-Fee or Low-Fee Interest Bearing AccountA lot of online-only banks have interest bearing accounts that do not have an annual fee. They dont even have minimums you can keep $20 in there if you want. Just find one that pays a respectableyieldand will allow you tocreate a linkto your free checking account (many of these online-only banks only work that way you have to have a link to an external bank account).Search around for the best rates from an FDIC insured bank. Alternatively, there are even mutual fund companies that offermoney market fundswith a competitive dividend yield. All you need is an institution that will pay you something and link to your free checking account.Keep in mind that your bank or credit union might have a savings account orCDsthat will give you what you need. Make sure that there are no fees or costs, and that the interest rate is competitive. If this is the case, the link already exists and moving money back and forth could be much faster.Step 3: Establish the Link to Your Free Checking AccountAfter you have both accounts opened, youll need to link them. This just means you have to tell them about each other. The most common way is to send a voided check from your free checking account to the interest or dividend paying institution. The institution may have a simple form for you as well.Note that youll probably have to wait while the link is established. This can take several weeks, so get things up and running as soon as possible.Step 4: Zap the Money Back and Forth as NeededOnce your link is up and running, you just monitor your monthly cash flow and expenses. If youll have more money than you need, you can zap the money from your free checking account over to the institution that pays a dividend or interest. When youre ready to spend that money, zap it back to your free checking account.To zap the money, you usually just go to a website and request a transfer of funds. Then youll need to wait several days for the transfer to take place. Be sure you know how long each institution requires that the money is on the books before its cleared cash (meaning you can write a check against it). Some institutions place a hold on the funds, and you should know how long the hold is so that you dont bounce any checks.Step 5: Congratulate YourselfNow you have the best of all worlds. You get to enjoy the benefits of a free checking account, and you get to earn money on your idle cash. Its similar to having a more expensive checking account, however you dont have to pay. The only thing you give up is a few minutes of your time each month while you transfer the money.Note: Justin Pritchard is a Registered Representative and Investment Advisor Representative with Financial Network Investment Corporation, Member SIPC.Perhaps the most common form of bond investing involves the class of mutual funds known as money market funds.These investment vehicles must, by law, be both safe and liquid. The funds consist of cash and "cash equivalents" -- highly rated debt issues that mature in less than 13 months.Shares in money market funds trade for $1 each (once again, federal law is a factor. Money market funds are regulated by Securities and Exchange Commission's (SEC) Investment Company Act of 1940, Rule 2a-7. That rule calls for the net-asset value of a fund share to be $1.)The funds are highly liquid -- meaning that it's easy to pull out your cash when you need it. As a result, the funds tend to attract investors who need to "park" cash for brief periods of time ... while looking to buy a home, comparing other investments or waiting to pay a large bill.The funds also extremely safe. And as a result, they don't have to pay high returns to attract investors.Keeping cash in a money market fund for long periods of time opens you up to inflation risk andopportunity cost.The Big DogsThere are two classifications of money market funds that dominate the market.Retail money market accounts are marketed to high net-worth investors. These funds are managed by brokerage houses and are used to park cash while investors plan their next move. These retail funds make up roughly 40 of all money market assets. The largest player in this space is Fidelity Investments' Cash Reserves fund, with some $110 billion in assets.Institutional money market funds are marketed to large corporations, government agencies and other large entities. Cash is often "swept" into the accounts through automated trading programs on a nightly basis. The largest player in the space is JPMorgan Prime Money Market Fund, which has more than $100 billion in assets.When Should I Buy a Money Market Fund?If there's money burning a hole in your pocket, it's time to consider a money market fund.There's likely no better place for the average investor to "park" cash while researching a long- or intermediate-term investment strategy.It's a recipe for disaster when an investor starts to think that he "has to do something" with that year-end bonus, inheritance, lump-sum payment or windfall.Put that money in one of these safe, liquid, short-term funds. Then start reading, looking for a good financial planner, talking to your accountant, and taking other steps to ensure you make the right move for you.overview[edit]The book was in part a reaction to the financial collapse ofOverend, Gurney and Company, a wholesale discount bank located at 65Lombard Street, London, from which the title draws its name. When this bank suspended payments on 10 May 1866, panic spread across London, Liverpool, Manchester, Norwich, Derby and Bristol.[1]Lender of last resort[edit]Lombard Streetis known for its analysis of theBank of England's response to the Overend-Gurney crisis. Bagehot's advice for thelender of last resortduring acredit crunch(sometimes referred to as "Bagehot's dictum") is summarized byCharles Goodhart[2]as follows: Lend freely. At a high rate of interest. On good banking securities.(Nonetheless, Goodhart emphasizes that many of these ideas were spelled out earlier byHenry Thornton's bookThe Paper Credit of Great Britain.)Bagehot's dictum has been summarized byPaul Tucker[3]as follows:"to avert panic, central banks should lend early and freely (ie without limit), to solvent firms, against good collateral, and at high rates".In Bagehot's own words (Lombard Street, Chapter 7, paragraphs 57-58), lending by thecentral bankin order to stop abanking panicshould follow two rules:First. That these loans should only be made at a very high rate of interest. This will operate as a heavy fine on unreasonable timidity, and will prevent the greatest number of applications by persons who do not require it. The rate should be raised early in the panic, so that the fine may be paid early; that no one may borrow out of idle precaution without paying well for it; that the Banking reserve may be protected as far as possible.Secondly. That at this rate these advances should be made on all good banking securities, and as largely as the public ask for them. The reason is plain. The object is to stay alarm, and nothing therefore should be done to cause alarm. But the way to cause alarm is to refuse some one who has good security to offer... No advances indeed need be made by which the Bank will ultimately lose. The amount of bad business in commercial countries is an infinitesimally small fraction of the whole business... The great majority, the majority to be protected, are the 'sound' people, the people who have good security to offer. If it is known that the Bank of England is freely advancing on what in ordinary times is reckoned a good securityon what is then commonly pledged and easily convertiblethe alarm of the solvent merchants and bankers will be stayed. But if securities, really good and usually convertible, are refused by the Bank, the alarm will not abate, the other loans made will fail in obtaining their end, and the panic will become worse and worse.See also[edit]n recent years, money market accounts have become popular alternatives to CDs, short-term bonds, and classic savings accounts. In large part, this increase has been fueled by competitive yields, daily access to the money, and until recently, a sense of safety and stability. Many investors have discovered however, that even money market funds offered by the top banks and brokerage houses are not immune to a loss in value or liquidity.While investors holding money market funds that have broken the dollar mark or become illiquid may be tempted to hunt down their broker or banker, they may not have much of a case. The reality is that most money market funds, though they seem very safe, are in fact mutual funds that can lose value just like any other mutual fund. This important fact, along with many others, is disclosed in accordance with SEC regulations in the prospectus that all investors are supposed to be delivered at or before the time of their initial purchase.To help you keep your portfolio out of the red, here are some important facets every investor should understand about money market safety.Mutual Fund StructureTrue money market funds are not savings accounts but mutual funds. Instead of a bank loaning out your deposit and paying you part of the interest they earn, a money market fund actually uses your money to buy into a large pool of very short-term bonds. Depending on the type of money market fund, this pool of investments may include government bonds, corporate bonds, or municipal bonds.Unlike most stock and bond mutual funds whose share price fluctuates, money market funds attempt to maintain a stable share price (also known as net asset value) of $1.00 per share. By keeping a stable share price of $1.00, investors get the sense that they can take out tomorrow what they put in today, with virtually no risk.Money markets however, are not without risk. Since they ultimately represent a pool of assets owned by multiple investors, they are subject to a number of factors that could drive their share price below $1.00, creating a loss.The largest factor that would likely contribute to a money market fund breaking the dollar barrier would be if enough of the assets in the underlying investment pool declined in value or became worthless. In other words, if the companies whose bonds the money market fund owns gets into financial trouble, those bonds will decline in value or become worthless. That in turn, causes each investors proportionate piece of the money market fund to also decline in value.Another factor that might contribute to a loss in value is a rush on redemptions by the people invested in the money market fund. Since the majority of the money in a money market fund is invested in short-term bonds that mature at some point in the future, itd create a major problem if a large number of investors wanted their money all at once.Large simultaneous withdrawals could force a money market fund to sell some of its prior to their maturity date, which can also lead to a decline in the value. This can occur even in money market funds that only invest in U.S. Treasury securities, since the U.S. Treasury only backs securities held until maturity.FDIC InsuranceDespite what many investors think, most money market funds are notFDIC insured. Even money markets that are offered through FDIC insured banks are not necessarily insured. Remember, a money market fund is a mutual fund that is subject to loss because of conditions in the investment market, just like any other stock or bond mutual fund.FDICandSIPC insuranceonly cover accounts that are at risk because your banking or brokerage institution is going out of business. They do not protect you against poor investment choices or recommendations.Some banks do offer FDIC insured money market accounts, but this is the exception more than the rule. To make sure your investments are covered, you need to ask your banker or broker specifically about FDIC insurance, as well as ask for a prospectus.Doing Your HomeworkThe most important thing every money market fund investor should do visit one of the main mutual fund rating sites such asS&PorFitchs. If youre looking for a safer place to park you cash assets, you should settle for nothing less than a top-rated money market fund.Additionally, the SEC requires money market funds to regularly disclose a number of important facts, including their most recent list of holdings. Every investor should visit the corporate websites of money market funds theyre considering and review the funds most recent holdings. Be on guard for funds that own bonds from other companies or government agencies that have recently reported negative financial news.To have your college planning or investment questions answered in one of our upcoming blogs, email Ken Clark atCollegeSavings@aboutguide.com.

The money market is a subsection of thefixed incomemarket. We generally think of the term fixed income as being synonymous tobonds. In reality, a bond is just one type of fixed income security. The difference between the money market and the bond market is that the money market specializes in very short-term debt securities (debt thatmaturesin less than one year). Money market investments are also called cash investments because of their short maturities.

Money market securities are essentially IOUs issued by governments, financial institutions and large corporations. These instruments are veryliquidand considered extraordinarily safe. Because they are extremely conservative, money market securities offer significantly lower returns than most other securities.

One of the main differences between the money market and the stock market is that most money market securities trade in very high denominations. This limits access for the individual investor. Furthermore, the money market is adealer market, which means that firms buy and sell securities in their own accounts, at their own risk. Compare this to the stock market where a broker receives commission to acts as an agent, while the investor takes the risk of holding the stock. Another characteristic of a dealer market is the lack of a central trading floor orexchange. Deals are transacted over the phone or through electronic systems.

The easiest way for us to gain access to the money market is with amoney market mutual funds, or sometimes through a money market bank account. These accounts and funds pool together the assets of thousands of investors in order to buy the money market securities on their behalf. However, some money market instruments, likeTreasury bills, may be purchased directly. Failing that, they can be acquired through other large financial institutions with direct access to these markets.

There are several different instruments in the money market, offering different returns and different risks. In the following sections, we'll take a look at the major money market instruments.