Money market funds have blossomed in 2023, but every rose has its thorns, with experts suggesting that what is good for each of us singularly, might not be beneficial for the whole society.
Cash funds were the big winners of 2023, capturing inflows of £4.4bn, more than in the previous eight years combined.
Craig Inches, head of rates and cash at Royal London Asset Management (RLAM) said they are “a no brainer”, not just because yields are attractive – investors can earn more in a money market fund or a short-dated government bonds fund than they can in the bank – but also because the risks are much lower, as he explained in Trustnet’s guide to money market funds.
The best-paying savings account today, according to Moneyfactscompare, is Metro Bank’s Instant Access, which gives a monthly 5.22%, with high-street banks usually offering lower rates than online banks. On the other hand, the best-paying money market fund today is Insight ILF GBP Liquidity, yielding 5.39%. Even fund managers recognised their appeal, with Ruffer’s Duncan MacInnes subscribing to Inches’ view and adding tax breaks consideration to their appeal as well.
“There were banks that sold savings accounts paying 1.5% and that is taxable,” he said. “But people now can take money out of the bank and buy gilts instead at 5%, and that's tax-free [owners of gilts do not pay capital gains tax on profits made]. It's an absolute no-brainer.”
The manager is so convinced of this that the Ruffer Investment Company’s portfolio he manages has 48% of its assets in short-dated bonds.
But, despite being a fan, he recognised that problems start to emerge when everybody chooses to store their cash in a money-market fund instead of their bank’s savings accounts.
“It is a Tragedy of the Commons”, said the manager, referring to the conceptual situation in which individuals with access to a common resource act in their own interest and ultimately deplete it, damaging themselves and the rest of society.
“It may make sense for me, but if we all do that it causes a problem because if I take my deposit out, the bank can't use it for making small business loans, or for opening a mortgage to another borrower,” MacInnes continued.
“So what it does is it sucks the money towards the centre of the financial system, it drains the monetary energy from the system and it stops banks from being able to be the intermediators of the capital markets.”
The issue was also discussed by David Walton, FE fundinfo Alpha Manager of the IFSL Marlborough European Special Situations fund, who mentioned it as one of the reasons why he is bearish on banks.
Today, people can shop around very easily for the best rates, compared to previous times when one had to go physically to the branch for any transaction, generating challenges for banks.
“The competition for deposits is higher than it's ever been for banks and with the added competition from money market funds, we’d need a bank account to pay about 7% for it to keep up with the rest of the cash market,” he said.
“On top of that, how many times have we seen a ‘one-off’ profit tax on banks across Europe? Banks are an easy target for when governments need to fix holes in their budgets – they have been since the financial crisis and they are always going to be under the glare of government constraints and regulatory scrutiny.”