The money market refers to trading in very short-term debt investments. At the wholesale level, it involves large-volume trades between institutions and traders. At the retail level, it includes money market mutual funds bought by individual investors and money market accounts opened by bank customers. In all cases, the money market is characterized by a high degree of safety and relatively low rates of return.
Key Takeaways
- The money market involves the purchase and sale of large volumes of very short-term debt products, such as overnight reserves or commercial paper.
- An individual may invest in the money market by purchasing a money market mutual fund, buying a Treasury bill, or opening a money market account at a bank.
- Money market investments are characterized by safety and liquidity, with money market fund shares targeted at $1.
- Money market accounts offer higher interest rates than a normal savings account, but there are higher account minimums and limits on withdrawals.
Understanding the Money Market
The money market is one of the pillars of the global financial system. It involves overnight swaps of vast amounts of money between banks and the U.S. government. The majority of money market transactions are wholesale transactions that take place between financial institutions and companies.
Institutions that participate in the money market include banks that lend to one another and to large companies in the eurocurrency and time deposit markets; companies that raise money by selling commercial paper into the market, which can be bought by other companies or funds; and investors who purchase bank CDs as a safe place to park money in the short term. Some of those wholesale transactions eventually make their way into the hands of consumers as components of money market mutual funds and other investments.
Who Uses the Money Market?
In the wholesale market, commercial paper is a popular borrowing mechanism due to higher interest rates compared to bank time deposits or Treasury bills and a greater range of maturities from overnight to 270 days. However, the risk of default is higher for commercial paper than for bank or government instruments.
Individuals can invest in the money market by buying money market funds, short-term certificates of deposit (CDs), municipal notes, or U.S. Treasury bills. For individual investors, the money market has retail locations, including local banks and the U.S. government’s TreasuryDirect website. Brokers are another avenue for investing in the money market.
The U.S. government issues Treasury bills in the money market, with maturities ranging from a few days to one year. Primary dealers buy them in large amounts directly from the government to trade between themselves or to sell to individual investors. State, county, and municipal governments also issue short-term notes.
Money market funds seek stability and security with the goal of never losing money and keeping net asset value (NAV) at $1. Falling below the $1 NAV level is termed as
Related Terms: capital markets, FDIC, mutual funds, net asset value.
References
- Federal Reserve Board. “Commercial Paper Rates and Outstanding Summary”.
- TreasuryDirect. “Treasury Bills”.
- Federal Deposit Insurance Corporation. “Insured or Not Insured?”
- U.S. Securities and Exchange Commission. “Press Release: Reserve Primary Fund Distributes Assets to Investors”.
- National Credit Union Administration. “Deposits Are Safe in Federally Insured Credit Unions”.
