If you're looking to invest in highly liquid investment vehicles that come with short-term maturities, consider a money market fund. These mutual funds typically invest in cash, highly-rated debt securities, and cash equivalents. These funds were originally designed to offer liquidity, provide current income, and preserve an investor's principal by maintaining a fixed $1.00 share price. Funds may face redemption restrictions and liquidity fees during times of financial duress which makes The Vanguard Prime Money Market Fund a great choice for some investors. Read on to find out more about this fund and whether it's a good fit for your portfolio.

Key Takeaways

  • The Vanguard Prime Money Market Fund is a taxable, conservative investment option designed for the retail investor.
  • The fund is primarily invested in highly liquid securities with short-term maturities like U.S. Treasury bills and cash.
  • VMMXX is a great option for investors who need immediate access to cash or for long-term investors who want to offset riskier investments.

The Vanguard Prime Money Market Fund

The Vanguard Prime Money Market Fund Investor Shares (VMMXX) is a conservative investment option offered by The Vanguard Group—one of the world's largest equity and fixed income managers. The fund is taxable and is designed specifically for the retail investor.

Launched in 1975 and holds total assets of $127.5 billion as of Jan. 31, 2020. The portfolio contains 401 securities. The minimum investment is $3,000, and any additional investment after that is priced at $1 per share. The expense ratio is 0.16%, and there are no purchase or redemption fees. The fund is primarily invested in:

  • Yankee/Foreign Bonds: 59.5%
  • U.S Treasury Bills: 23.4%
  • U.S. Government Obligations: 9.2%

The yields of money market mutual funds are largely dependent on the interest rate environment, meaning their yields will likely rise as interest rates rise. So when interest rates rise, money market mutual funds like Vanguard's Prime Money Market Fund become much more attractive to investors. VMMXX is one of the money market mutual funds that saw its yield rise in 2018, with a distribution yield that rose from 2.07% in August 2018 to 2.16% during the same month in 2018. As of the end of January 2020, the fund's distribution yield was 1.68%. The drop in yield is normal and is primarily due to short-term interest rates which is explained below.

Like all mutual fund money market funds, VMMXX is not insured or guaranteed by the Federal Deposit Insurance Corporation (FDIC). Investors concerned about the lack of insurance may wish to consider a money market fund account offered by a bank since the FDIC insures those accounts up to $250,000.

Who Should Invest?

The Vanguard Prime Money Market Fund carries a significant amount of cash, making it an incredibly liquid asset. Securities held in the fund are also highly liquid, with the average maturity sitting at 36 months. This makes the fund highly suitable for conservative investors whose tolerance for risk is low. It's also a great investment choice for anyone who may need quick access to money on a daily basis.

Investors with short-term investment horizons of one to three years may find VMMXX a suitable choice to keep their cash earning competitive rates.

That doesn't mean investors with longer-term investment horizons can't benefit from the fund. In fact, these investors may use VMMXX for the cash allocation of their long-term investment portfolios, using it as a complement to some of their other, riskier holdings.

Risks Associated with VMMXX

In the absence of a financial crisis, the risk of principal loss is minimal. The fund is set to continue to mirror the short-term interest rates available in the U.S. economic environment, so investors can expect to see the fund increase its yield when short-term interest rates begin to rise. Although this makes it a relatively stable investment with a low cost and monthly income, VMMXX does come with some pitfalls. Here are some of the most common risks associated with the fund which could hurt your investment:

Credit Risk: You may experience a drop in security prices if issuers can't make the interest or principal payments. This risk, though, is very low, as the fund invests in high-quality securities.

Income Risk: Any drop in interest rates will directly impact the income paid by the fund. That's because the fund relies heavily on short-term interest rates. As an investor, you can expect income risk to be higher because short-term rates tend to fluctuate over shorter periods of time.

Industry Risk: A small portion of the fund invests in commercial paper and bonds, so if there are any problems or situations that affect an industry, it will translate to the fund's performance. For example, any risks associated with the financial services industry will affect the fund if it invests in securities invested by that sector.

Principal Growth Risk: Because the share price is restricted to $1 per share, there's very little chance that your principal investment will grow. The trade-off, though, is that you probably won't lose money either.