Money Fund Rate Near 5-Year High

The Federal Reserve’s credit-tightening moves are paying off for money market mutual fund shareholders.

The average taxable money market fund yield topped 4% this week for the first time in nearly five years, according to the Money Fund Report, a Westborough, Mass.-based newsletter that tracks the industry.

The seven-day simple annualized yield was 4.01% as of Tuesday, up from 3.97% a week earlier and the highest since May 2001, Money Fund Report said.

Money funds invest in short-term IOUs of companies and government entities, and pass most of the interest earned on the securities through to shareholders. The rates on those IOUs typically follow the Fed’s benchmark short-term rate.

When the Fed held its rate at generational lows from 2002 through mid-2004, money fund annualized yields hit record lows, averaging about 0.5%.

But since June 2004 the central bank has lifted its key rate 14 times, to the current 4.5%. Another increase, to 4.75%, is expected when policymakers meet Tuesday, and many Wall Street pros believe the Fed won’t stop raising rates until its benchmark reaches at least 5%.

If the Fed halts at 5%, average money fund yields should settle around 4.5% about six weeks later, said Connie Bugbee, managing editor of the Money Fund Report.

She said investors would be wise to shop around for the highest-yielding money funds. Generally, funds that keep their management fees low offer the best rates, because the yields the funds pay are net of fees.

Among the 10 largest money funds by assets, the current highest yield is 4.40% on Vanguard Group’s Prime Money Market fund. The lowest is the 3.88% paid by the Columbia Cash Reserves fund.

Despite rising yields, money funds overall have seen their assets grow slowly over the last year. There is about $2 trillion in 1,800 money funds, compared with $1.87 trillion a year ago.

Bugbee said asset growth has been limited by a shift in the brokerage industry in recent years. Instead of using money funds as a holding place for clients’ short-term cash, many brokerages now deposit the money in banks they own.

That’s a savings for the brokerage, Bugbee said, because the bank accounts typically pay less than what clients could earn in independent money funds.

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What the big funds pay

Here are the largest taxable money market mutual funds by assets, their current annualized interest yields and what their yields were six months ago.

*--* Assets Annualized Annualized yield* yield* Fund (billions) Tues. Six mos. ago Fidelity Cash Reserves $69.6 4.24% 3.30% Vanguard Prime 53.5 4.40 3.38 Money Market Schwab Money Market 41.7 3.91 2.93 Schwab Value Advantage Money 26.2 4.22 3.23 Mkt. Centennial Money Market 22.5 3.99 3.00 Smith Barney Cash Portfolio 21.4 4.14 3.13 Morgan Stanley Liquid Asset 17.2 4.13 3.09 Columbia Cash Reserves 16.8 3.88 2.86 Vanguard Admiral Treasury 15.2 4.25 3.28 Money Market Morgan Stanley Active 12.5 4.19 3.20 Assets Money Average money market fund 4.01 3.03

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*Seven-day simple yield

Source: Money Fund Report