Money Market Funds Explained: Yields, Risks and How They Compare to Savings

Money market funds have become a go-to place for cash when interest rates are attractive. They offer competitive yields, daily liquidity and low risk — but they aren’t the same as a bank account. Here’s how they work.

What is a money market fund?

A money market fund is a mutual fund that invests in very short-term, high-quality debt, such as:

• US Treasury bills
• Government agency securities
• Repurchase agreements (repos)
• High-quality commercial paper and certificates of deposit

In the US, money market funds are regulated by the SEC under Rule 2a-7, which limits maturity, credit quality and concentration. Most aim to keep a stable $1.00 share price while paying interest daily.

Types of money market funds

• Government funds: Invest almost entirely in government securities and repos. The lowest risk.
• Treasury funds: A subset holding mainly Treasuries; income may be exempt from state tax.
• Prime funds: Can include corporate debt for slightly higher yield and slightly more risk.
• Municipal (tax-exempt) funds: Hold short-term municipal debt; income may be federally tax-free.

How the yield works

Yields track short-term interest rates. When the central bank raises rates, money market yields usually rise quickly; when it cuts, they fall. Learn more in how interest rate decisions affect you. Funds commonly report a 7-day yield, which annualizes recent income after expenses.

Example: $10,000 in a fund yielding 4.5% earns roughly $450 over a year if rates stay the same.

Money market funds vs other cash options

Compare savings options in APY vs APR and try the savings interest calculator.

Risks

1. Not insured: Money market funds are investments, not deposits.
2. Breaking the buck: Rarely, a fund’s share price falls below $1 — it happened in 2008. Regulations since then have tightened rules.
3. Rate risk to income: Yields fall when rates fall.
4. Inflation: Yields can trail inflation, reducing real value.
5. Fees: Expense ratios reduce yield; compare them.

Taxes

Distributions are generally taxed as ordinary income. Treasury-focused funds may be exempt from state and local tax; municipal funds may be federally tax-exempt. Holding money market funds in tax-advantaged accounts avoids current taxes.

When to use a money market fund

• Part of your emergency fund, alongside an insured savings account
• Cash waiting to be invested in a brokerage account
• Short-term goals within a year or two
• The “cash bucket” in a retirement withdrawal strategy

For long-term goals, money market funds alone usually won’t keep pace with inflation; pair them with a diversified portfolio.

How to choose one

• Prefer government or Treasury funds for maximum safety.
• Compare expense ratios — they matter more when yields are modest.
• Check minimums and settlement times at your brokerage.
• Consider tax-exempt funds if you’re in a high bracket.

Conclusion

Money market funds combine low risk, competitive yields and easy access, making them excellent for short-term cash. Just remember they aren’t FDIC-insured, yields move with interest rates, and long-term money needs growth assets to outpace inflation.