Thursday, January 18, 2018
Business

Ultrashort bond funds an alternative to money market funds

A growing number of investment firms have begun offering ultrashort-term bond funds, which may become an alternative to the traditional money market fund.

There are now close to 50 ultrashort bond funds, with seven of them introduced last year, according to Morningstar Inc.

Ultrashort bond funds generally invest in government and corporate securities that have slightly more risk — and thus a slightly higher yield — than a money market fund. But the average maturity of these securities also is less than those of a typical bond fund, so ultrashort funds will be less affected by interest rate changes. Though rates have been at historical lows, many analysts don't expect them to remain low for long. In May, the yield on the 10-year Treasury note rose by about half a percentage point.

Among recent arrivals, the T. Rowe Price Ultra Short-Term Bond Fund launched in December and has $175 million in assets. Legg Mason Inc.'s California subsidiary last month filed to register the Western Asset Ultra Short Obligations Fund with regulators.

Some fund experts say companies are offering ultrashort-term bond funds as an alternative for risk-averse investors fed up with the low rates offered by money market funds. But others say companies also are gearing up for possible regulatory reforms that could make money market funds less attractive.

For decades, investors have parked cash in money market funds, considered the safest investment for preservation of principal outside an insured bank account. Such funds aim to maintain a $1 per share price.

But some money market funds several years ago started holding riskier securities to boost yields — a strategy that blew up on them in the 2008 financial crisis and caused investors in the oldest money market fund to lose money.

The Securities and Exchange Commission has proposed eliminating the fixed $1 share price on certain money market funds that can lead investors to believe the funds never lose value. Under the proposal, the share price would go up and down with the value of the securities held by the money market fund, the same as with mutual funds.

It's unclear when or what the SEC will decide about money market funds.

Russ Wermers, associate professor of finance at the University of Maryland-College Park's Robert H. Smith School of Business, said fund companies aren't waiting to find out. They are preparing for potential reform by introducing ultrashort-term bond funds as an alternative to money market funds, he said.

"Without the fixed (net asset value) benefit, investors may see little reason to invest in something with such a low yield," he said.

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