• Money market funds are fixed income investments that only invest in high-quality, very short-term debt instruments.
  • They seek to provide income along with stability in their investment value – making them a potentially effective cash management tool for advisers.
  • Not all money market funds are equal and can vary in their structure and management approach. 

Investor interest in money market funds has grown significantly in recent years, driven primarily by materially higher interest rates. Since 2022, UK money market assets under management (AUM) have grown around 43%1. 

First introduced in the US in the 1970s, money market funds are liquid, short-term investments that can offer more attractive levels of return than traditional savings accounts – making them a  compelling investment option for investors who need to park cash to fund short-term goals.

A versatile, short-term solution

While their low levels of price volatility are helpful when interest rates are rising, money market funds also offer a versatile addition to client portfolios when rates are falling, too. 

Money market funds only invest in high-quality, very short-term debt instruments and seek to provide liquidity and stability in their investment value. Like other investments, the value of money market funds, and the income from them, may fall or rise and investors may get back less than they invested.

Yields are still higher than many longer-term (and more risky) fixed income exposures

Despite government bond yield curves recently showing signs of normalising, yields at the longer end of the curve still offer relatively little, if any, term premia, or additional yield to compensate investors for the extra risk of rates changing over time. 

As a result, money market funds currently yield more than longer-term government bonds, with the average UK money market fund currently yielding 4.95% – compared with 4.40% on 10-year UK gilts2. 

More stable valuations

Investors need only think back to two years ago, when heightened volatility in bond markets caused many fixed income portfolios to temporarily decline in value. Money market funds, on the other hand, are required to hold minimum levels of cash and other readily liquid assets,  and tend to have lower levels of price volatility than longer duration fixed income investments. For example, the Vanguard Sterling Short-Term Money Market Fund has a maximum weighted average maturity of just 60 days and minimum daily liquidity of 7.5%. 

Yield pick-up versus cash

Compared with savings accounts, money market yields are slower to adjust to interest rate changes, which can provide a short-term boost in returns for investors when policymakers cut rates. For example, the Vanguard Sterling Short-Term Money Market Fund can take several months to fully reflect a rate cut – compared with the near-overnight response in some savings account rates. 

The chart below illustrates the change in money market yields versus cash rates in the UK, beginning in September 2023, when the Bank of England (BoE) raised interest rates for the last time. While cash rates stayed at around 5.20%, money market yields took several months to adjust to the confirmed policy change. After the BoE announced its first 25 basis point (bps) rate cut in the current cutting cycle, in August 2024, cash rates nearly immediately fell by a full 25 bps whereas money market rates adjusted downwards more slowly. 

Although money market yields eventually reflect the full value of policy changes, the slower pace of adjustment allows investors to continue earning higher returns for longer compared with cash rates. 

When the BoE cuts rates, money market yields are slower to respond than savings rates 

A line chart comparing the yield on the Vanguard Sterling Short Term Money Market Fund to the cash rate from September 2023 to the present. This includes the first rate cut by the Bank of England in August 2024, when the cash rate nearly immediately adjusted down by the full 25 basis points, from 5.20% to 4.95%, while money market yields slowly drifted downwards.

Source: Vanguard and Bloomberg, for the period 1 September 2023 to 31 October 2024. VASSTAI represents the Vanguard Sterling Short-Term Money Market Fund yield. The cash rate is based on the Sterling Overnight Index Average (SONIA) interest rate benchmark.  Calculations are annual total returns, in GBP. Past performance is not a reliable indicator of future results.

Not all money market funds are created equal

When evaluating money market funds for your clients, here are some features to consider: 

  • LVNAV versus VNAV: What’s the difference?

    Most investors tend to think of money market funds as being roughly the same as one another, but there are actually several different types available. The most common types are low volatility net asset value  (LVNAV) funds, which aim to maintain a constant share value of £1 and calculate their share prices to two decimal places; and variable net asset value (VNAV) funds, which mark to market their NAVs on a daily basis and price their shares to four decimal places. The Vanguard Sterling Short-Term Money Market Fund is a VNAV fund, and its price reflects slight movements in its daily value.

    Under normal market conditions, the difference between the two pricing methods is negligible. But when markets are stressed, the more detailed pricing structure of a VNAV fund can provide investors with greater clarity on the future price movements in its underlying securities. 

  • Minimising reinvestment risk

    Due to their short-term nature, money market funds tend to have higher reinvestment risk than other fixed income funds. To help manage this risk when rates are declining, money market fund managers can employ a variety of strategies. The Vanguard Sterling Short-Term Money Market Fund investment team, for example, can selectively extend the fund’s duration by investing in longer-maturity instruments, which can help reduce the frequency of reinvestments at potentially lower rates. The team can use a laddered approach that spreads the fund’s maturity profile over different time periods of 3-, 6- and 12-month UK government bonds. This can help reduce the risk of reinvesting funds at potential low points in the rate-cutting cycle.

  • Focus on liquidity preservation

    While the managers of some money market funds can invest in more risky exposures like corporate commercial paper (a form of short-term corporate debt) in an effort to boost their funds’ overall yields, this can also cause unexpected fluctuations in value. The Vanguard Sterling Short-Term Money Market Fund invests exclusively in government securities, providing investors with a high-quality, low risk investment that seeks to provide stability in investment value, particularly  during times of market stress and volatility. 

 

Money market funds are not a replacement for fixed income allocations in client portfolios, and we continue to believe investors should remain fully invested in a long-term, strategic mix of assets through all market environments. But there are times when investors need to hold cash – either to park funds or to meet their short-term needs. In such instances, money market funds can offer a convenient, returns-generating solution. 

Find out more about the Vanguard Sterling Short-Term Money Market Fund. 

 

1 Source: Morningstar. Based on total money market fund assets under management domiciled in the UK, for the period 31 December 2021 to 31 October 2024.

2 Source: Bloomberg, as at 30 September 2024. Money market yield based on the Sterling Overnight Index Average (SONIA) index. The 10-year gilt yield is based on the GBP United Kingdom Sovereign yield curve. 

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Investment Risk Information

The value of investments, and the income from them, may fall or rise and investors may get back less than they invested.

An investment in a money market fund is not a guaranteed investment. An investment in a money market fund is different from an investment in deposits, as the amount invested in a money market fund is capable of fluctuation. Money market funds do not rely on external support for guaranteeing the liquidity of the money market fund or stabilising the Net Asset Value per share. The risk of loss of the amount invested shall be borne by the investor. 

Charges are deducted from capital (not income). Whilst this may increase the level of income paid, it will result in capital erosion and will constrain growth

Funds investing in fixed interest securities carry the risk of default on repayment and erosion of the capital value of your investment and the level of income may fluctuate. Movements in interest rates are likely to affect the capital value of fixed interest securities. Corporate bonds may provide higher yields but as such may carry greater credit risk increasing the risk of default on repayment and erosion of the capital value of your investment. The level of income may fluctuate and movements in interest rates are likely to affect the capital value of bonds. 

For further information on risks please see the “Risk Factors” section of the prospectus.

Important Information

This is directed at professional investors and should not be distributed to, or relied upon by retail investors. 

For further information on the fund's investment policies and risks, please refer to the prospectus of the UCITS and to the KIID before making any final investment decisions. The KIID for this fund is available, alongside the prospectus via Vanguard’s website.  

This is designed for use by, and is directed only at persons resident in the UK. 

The information contained herein is not to be regarded as an offer to buy or sell or the solicitation of any offer to buy or sell securities in any jurisdiction where such an offer or solicitation is against the law, or to anyone to whom it is unlawful to make such an offer or solicitation, or if the person making the offer or solicitation is not qualified to do so. The information is general in nature and does not constitute legal, tax, or investment advice. Potential investors are urged to consult their professional advisers on the implications of making an investment in, holding or disposing of shares and /or units of, and the receipt of distribution from any investment. 

SONIA is the abbreviation for the Sterling Overnight Index Average, which reflects the average of interest rates that banks pay to borrow overnight, unsecured sterling cash on a given day. 

The Authorised Corporate Director for Vanguard® Investments Money Market Funds is Vanguard Investments UK, Limited. Vanguard Asset Management, Limited is a distributor of Vanguard® Investments Money Market Funds. 

For investors in UK domiciled funds, see our summary of investor rights and is available in English. 

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