Everything you need to know about Money Market Funds

In the current interest rate scenario, the yields are range-bound with quite a bit of volatility. Due to high inflation, yields are rising but Reserve Bank of India (RBI) with its open market operations (OMO) is trying to keep yields under control. Therefore, presently, it is better to have investments in short-term funds, which would help you protect from the interest rate volatility. Money Markets Funds are one of the short-term bond funds.

Money market funds are debt mutual funds, which particularly invests in debt instruments with maturities for a period of up to one year. They invest in instruments such as treasury bills, certificates of deposits, repos, and commercial papers. However, this doesn’t mean that they wouldn’t invest in long-duration papers. They essentially would but allocation towards them would be quite low. Further, reduced interest rate volatility doesn’t mean these funds wouldn’t carry credit risk.

The above graph shows one-year rolling returns of CCIL T-Bills Liquidity Weighted Index. This index would help us to understand returns in the money market. So, as we can see, the one-year rolling returns have reduced from 7 per cent in the year 2014 to a mere 3.4 per cent. However, this is purely investments in government securities. In fact, the money market funds also invest in commercial papers and certificates of deposits. Therefore, its returns would be a bit higher than the CCIL T-Bills Liquidity Weighted Index.

In the past one year, the best-performing money market fund generated returns of 7.05 per cent whereas worst performing funds generated 4 per cent of returns. Hence, on average, you can expect returns of 5.5 per cent. Having said that, never expect higher returns from short-term funds as they are better suited for capital protection. For capital appreciation, you need to take a greater amount of risk and invest in long-term funds such as gilt and long-duration funds or credit risk funds.

Further, if you are a conservative investor, then it is better to opt for a savings bank account or bank FDs of mid-cap banks as it would fetch better interest rates and comparatively lower risk. Besides, moderate to aggressive investors can look for different options such as liquid funds, ultra-short duration funds, and low duration funds. However, don’t expect a pre-tax return of more than 6 per cent to 7 per cent. For taxation purposes, investors in the highest tax bracket can even invest in arbitrage funds.