Money market funds are types of mutual funds within the fixed income category. As part of a larger portfolio, money market funds house an investor's cash to round out a diversified group of investments into a suitable asset allocation, or as a transitional buffer until other investment choices can be made. Understanding the difference between the trade date and the settlement date will make money market investments less confusing and increase the efficiency with which securities purchasing decisions can be implemented.
Money Market Basics
Investments held in money market funds are considered liquid and are extremely safe from stock market declines. Similar in nature to ordinary bank savings accounts, money market funds earn minimal interest rates and are primarily used to hold cash until it is utilised for other investment opportunities. Money market funds are comprised of extremely short-term debt instruments issued by private corporations and the government, and commonly contain securities such as treasury bills, certificates of deposit, corporate bonds.
The calendar date on which cash is invested into a money market fund, or any other security, is called the "trade date." Ownership of shares is not actually transferred on the trade date, but the investor's account register typically notates the purchase as "pending" while administrative staff initiates the process of properly registering the purchase.
At the conclusion of the administrative staff's processing, money market shares are officially placed into the investor's portfolio. The date of the formal transfer is called the "settlement date." Money market funds typically have a settlement date that is three business days after the initial trade date. The days between the trade date and settlement date are used by administrative personnel to verify the availability of the investor's cash, locate and designate shares to be purchased, transfer cash to the selling parties, and notate the investor's account.
Modern computer technology has increased the efficiency with which account data can be verified and money transferred. However, the sheer volume of individual securities transactions is often more than administrative personnel can process in a single day. Additionally, the complexity of many money market fund investments involving multiple accounts, margins, and large corporate purchases may require the use of several resources to properly verify the availability of cash and to ensure correct title and ownership is recorded.
Because money market funds are considered liquid and protected from market volatility, many investors fail to realise that the three-day period between trade date and settlement date also applies to withdrawals. Orders to sell money market funds do not immediately result in available cash balances. Even though money market funds often act as a simple holding account for cash, they are represented by shares that must be bought and sold within established industry guidelines like every other security.
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