Nine things to know about money market funds vs cash savings

With interest rates now comfortably ahead of the inflation rate, many investors are looking for a way to improve returns on their cash savings. We take a look at money market funds, explain how they work, and whether they might be a good option for some investors.

• Read more about: Money Markets | Bond Yields | Investing in Bonds

1) What are money market funds?

Money market funds are designed to be a low-risk option for investors.

They are run by fund managers who invest in a range of cash-based financial products including fixed deposits and short-dated government bonds. Fund managers can access a range of financial instruments that aren’t available to retail investors, so may be able to get better rates than an individual saver.

They invest in liquid assets, which means they are very easy to buy and sell. Money market funds come in two categories: short term and standard. Short-term money market market funds have stricter liquidity and interest-rate risk requirements than standard money market funds, but generally return less. 

2) What is a high street bank account or savings account?

Savers can set up a bank account or savings account directly with their bank or building society. Interest is set out in the terms and conditions when you open your account and it’s guaranteed by the provider.

Your bank will usually contact you when the interest rate changes, and your rates may go up or down when the Bank of England announces it has changed the base rate. Set by the Bank of England, the base rate influences the rates that other banks charge people to borrow money or pay on their savings and mortgages.

3) Are bank savings protected?

Your cash balance is protected and, if you hold money with a UK-authorised bank or building society, you’ll receive up to £85,000 per person if that provider fails. Money market funds do not have the same protection, but because the investments are spread across a range of banks, the risk of failure is very low.

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4) Why would you own money market funds?

Money market funds can be owned inside a pension scheme, stocks and shares ISA or general investment account. They can be a good option if you want to hold some cash within your investment portfolio.

Money market funds aim to give a higher return than a cash savings account, while still providing a low-risk option for investors.

Investors might decide to hold cash in their portfolio for a variety of reasons. Sometimes they might not be sure where to invest yet, or need to access their savings soon. Or investors may hold cash as part of their investment strategy, to help cushion the effect of stock market volatility and reduce the overall risk of their portfolio.

Some wealthy investors also hold some cash in their portfolio to enable them to take advantage of dips in the stock market and buy when prices are cheap.

5) Are money market funds safe?

A money market fund is still an investment, even though it is low risk, and could go down in value. Bond prices can fluctuate over time, and it is possible that a company may not be able to pay back its debt. 

However, money market funds are diversified across many financial instruments and providers and so the risk of losing money is low, even during periods of stock or bond market volatility. 

Fund values usually remain stable, with very little fluctuation over time. Most money market funds are set up as separate Open-Ended Investment Companies or Unit Trusts. 

6) What are money market yields today?

Money market yields are closely tied to the Bank of England interest rate, which is currently 4.5%. However, because funds are managed by professional investors, they are able to increase returns by moving money between different money market instruments. 

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For example, they could use floating rate notes, where returns rise and fall as interest rates do, or move money in and out of longer or shorted-dated debt depending on the direction of interest rates. 

7) What will happen if interest rates change?

Interest rates are falling, and are expected to keep dropping this year as inflation subsides. Some economists expect rates to fall to 4% by the end of the 2025. This would mean that money market and cash accounts yields would fall too. 

While bank accounts may pass on interest rate cuts immediately, money market funds typically take a couple of months for yields to move when interest rates fall.

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8) What money market funds are available?

The following money market funds are available on our platform. Yields are currently a little above the 4.5% Bank of England interest rate. 

9) Should retail investors use money market funds?

Money market funds are a great way of achieving a secure return inside a tax-efficient wrapper, such as an ISA or a SIPP.

Because they are run by professional investors for a low fee, returns are typically ahead of what bank accounts offer.

They are also highly diversified products, with investments in many cases split across more than 50 banks and bond issuers. This means that they are very secure for retail investors, and they are trusted by large investors too as a secure home for cash positions.