Saving money is an important part of modern life. Not only should households have an emergency fund established, but retirement investments and other savings options should also be in place. One of the traditionally secure savings vehicles that have been used over the years is a money market account. There are certainly some advantages to putting money into such an account, but there are certain disadvantages that occur when doing so as well. Each must be equally weighed.
If you’re thinking about opening up a money market account today, then here are some of the key points to consider.
What Are the Pros of a Money Market Account?
The primary benefit is that funds in this type of account are generally secure. They are typically insured by the financial institution to the maximum amount allowed by law and there are no limits to the amount of money that can be deposited in them. Their access is similar to that of your typical savings account.
1. There is little-to-no risk of balance loss.
Unlike other investment vessels, there is no risk of loss occurring from a standard money market account. As long as the amount it contains is lower than the insured amount, negative interest rates do not exist for this type of investment. In the worst case scenario, a household will simply not earn any money at all because the interest rate given is 0%. If there is a highly volatile economy, this account becomes a safety net.
2. There is no penalty for withdrawal in most circumstances.
A standard money market account is just like having a savings account. As long as the minimum qualifications of opening the account are maintained, there is no penalty for accessing the cash the account is holding. The exception to this rule would be if the money market account is within the confines of a tax advantaged retirement account. In this circumstance, money market funds that are withdrawn would be subject to possible taxation and early withdrawal penalties.
3. Most financial institutions offer these accounts.
Even institutions that don’t typically offer investment products will have the option to open up a money market account. This allows households that don’t want to get into direct trading and investments the option to still grow their money in a place that is likely close to their home.
4. Liquidity happens fast.
For money market funds that are trading, they operate with securities and entities that are in high demand. This typically means T-bills for US account holders. Because the demand for these products are high, it is much easier to turn them into cash that can be used. Buying in selling is incredibly easy than shares of certain organizations, so this type of investment vehicle is a benefit for those who are looking for a fast exit.
5. A single digit return can be a big return in a down market.
When returns from the stock market are reaching 15-20%, a single digit return on a money market account seems like an opportunity wasted. When the stock market is seeing double digit losses in value and the money market account sees a single digit gain, then the wisdom of that investment will be touted by many. Although it takes some picking and choosing to get the timing right [and a bit of luck], adding this type of account to a financial portfolio can provide a needed anchor of financial stability.
6. The interest rate is higher than other financial savings products.
Many checking accounts today don’t even get an interest rate. Savings accounts that receive interest are lucky to see a rate that is close to 1%. Money market accounts, on the other hand, typically have tiered interest rates that get compounded once per month so that the returns increase as the balance increases.
7. Instant access can even occur through debit cards.
Some money market accounts can double in function as a checking account. Writing checks or having a debit card issued is not available at all institutions, but it is becoming more common. Sometimes even the insurance provider will offer this option. Same day settlements don’t always happen for large transactions, but for the most part, access for needs is generally instant.
What Are the Cons of a Money Market Account?
The primary disadvantage of a money market account is that a vast majority of them don’t allow for their interest rates to be locked in. This means they are typically based on interest rates set by the Federal Reserve. Since 2008, that means most money market accounts have been lucky to earn an interest rate of 1%. In comparison, some investments have seen 10-15% returns annually. That means money is ultimately lost, not gained.
1. Purchasing power can suffer dramatically.
Let’s say the inflation rate for the year hovers at 3%. What are the current interest rates at? Let’s say it’s at 1% for easy math. Although the parked money in the account is going to increase from a pure numbers standpoint, it is actually going to decrease in its overall value. That’s because the return is lower than what the inflation rate happens to be. In this example, the money market account would lose a net 2% in overall value.
2. Money market accounts aren’t fee free.
Now let’s say that there is a small annual maintenance fee for maintaining the account. There may also be small monthly fees based on consumer activity. There will likely be a fee if the minimum balance threshold is not met. These fees may be small, but they add up quickly on years when inflation outpaces the interest returns that are gained. This makes it even more difficult for market investors to secure an overall return.
3. Not every money market account is actually insured.
Money market mutual funds are not typically insured by the FDIC or NCUA. It’s considered a safe place to park cash, but it isn’t a guaranteed place to park cash. The only way to do this would be to purchase money funds at your local financial institution and have these placed into the money market account. Even then the account will only be insured for up to $100,000. That doesn’t mean there aren’t other insurance products that can be used to cover losses, but they don’t come from the government.
4. Risks often outweigh the rewards from an investment standpoint.
It isn’t uncommon for money market accounts to pursue an extra tenth or two in percentage points to increase their returns. In order to do so, riskier investments like bonds or other products are made and these carry additional risks which may not be desired. Eve high yielding funds are difficult to maintain a successful return year after year, which means for some investors, the risks definitely don’t outweigh the rewards that can be achieved.
5. Many money market accounts have a high balance requirement.
The lowest amount for a standard money market account is typically $2,500. This is for standard household banking that people have access to through their local bank. There are some accounts that require an average minimum monthly balance of at least $5,000 to open an account. Premium accounts may require 5 or 6 figures as the minimum and ongoing balance to maintain.
6. There is still fluctuation within the market.
When overall interest rates change, the return on the money market account changes as well. These changes can even happen every month when it is time to compound the interest and add funds to the account. This makes it difficult to predict how fast the account will grow or what adjustments may need to be made to make that money grow faster.
7. There are typically withdrawal limits that are in place.
Most money market accounts allow consumers to withdraw money a maximum of 6 times per month. Although this is typically enough more most households most of the time, emergency situations may cause the limitation to be hit. Once that happens, the cash is inaccessible unless the money market account is closed. If that happens, the financial institution may not allow a new account to be opened at a later date.
How Do You Feel About Money Market Accounts?
More than 40% of Americans don’t have enough money saved to equal one paycheck. Living from paycheck to paycheck has become the new normal. Even Baby Boomers are struggling to put money away for their retirement. Many households do not have enough money to meet the minimum requirements of a money market account and that is problematic.
Without savings that are secured, a financial future can never be guaranteed. That’s what these money market account pros and cons ultimately point at. There may be issues with monetary valuation and low single digit gains achieved most years, but the money is parked and ready for use. It may not be appropriate as the only investment tool to use, but a money market account is a vital part of a diversified portfolio.