Cash & Money Markets
Cash covers bank deposits, short-term government bills and money market funds. It is the place money waits, and the yardstick every other asset is measured against.
How you earn
Interest, which follows the central bank's policy rate closely. When the Fed or ECB raises rates, cash pays more within weeks. When they cut, it pays less.
Real versus nominal
What matters is the interest rate minus inflation, the real return. Earning 4% while prices rise 6% means your money buys less each year, even though the balance goes up.
How it can hurt you
- Inflation above the interest rate.
- Bank failure above the deposit guarantee limit.
- Missing out on long-term growth when held for decades.
The rhyme
When a money market fund broke the buck, 2008Money market funds were invented in the early 1970s to give savers market interest rates, and their units were meant to stay at exactly $1. On 16 September 2008, a day after Lehman Brothers collapsed, the Reserve Primary Fund, which held Lehman debt, fell to 97 cents. Investors rushed to withdraw from money funds, and the US Treasury stepped in with a temporary guarantee. Even the safest-looking assets carry a risk that only shows up in a crisis.
Terms you will hear
- Policy rate
- The overnight rate set by a central bank, such as the Fed funds rate.
- T-bill
- A US government loan of one year or less.
- Real return
- Return after subtracting inflation.
- Deposit insurance
- A government guarantee for bank deposits up to a limit, e.g. $250,000 in the US.
Educational content only. Not a recommendation to buy or sell. Past performance does not indicate future results.