Explainer: How the New Money Market Guarantees Work

It appears that virtually all money market fund families have subscribed to the U.S. Treasury's Temporary Guarantee Program for Money Market Funds. Fidelity and Vanguard, among the last to jump onboard, announced last week that they would participate, one day before the enrollment deadline.

A Public Relations Move

"Fidelity and Vanguard had the luxury of waiting," says Peter Crane, publisher of Crane's Data and Money Fund Intelligence. "It's more that Fidelity and Vanguard didn't experience significant outflows. Most of them feel, 'why buy it anyway?' This is really a public relations move. Nobody expects to use the insurance. This is really just to put investors at ease. Certainly, had the run that was starting in money funds developed into a full-blown run, everyone would have needed it. You stop the run and you don't need the insurance. You don't stop the run and you're dead anyway."

The program protects whatever money you had in a money market fund as of the close of business Sept. 19, 2008. If a fund that participates in the program fails to maintain a net asset value of $1 per share, the guarantee means investors will be fully reimbursed. Treasury officials will review the program after the initial three months and will decide if it should be extended until Sept. 19, 2009.

Pressure from Withdrawals

The unprecedented move to give a government guarantee to money market funds followed the mid-September announcement that the Reserve Primary Fund broke the buck -- meaning it failed to maintain a net asset value of $1 per share. The fund, reportedly, had too much commercial paper from bankrupt Lehman Brothers and investors decided to bail.

Soon after, Putnam Investments closed the Putnam Prime Money Market Fund due to "significant redemption pressure." Money funds throughout the industry reported similar pressure as consumers and money managers withdrew billions of dollars. The Treasury then stepped in with its guarantee in an effort to stop the run.

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"There was this massive shift in the high end of the institutional market; but the retail market was barely impacted," says Crane. "Overall, the money funds were fortunate to keep a lot of that cash in the house. Undoubtedly, some money went to banks, but if you look at the numbers, it seems most of the assets stayed in fund complexes and merely shifted from prime into Treasury or government."

Although it appears that all fund families have signed up, if you're concerned about a fund that you were in as of Sept. 19, call your adviser or the fund company to see if it's covered by the government's guarantee.

Details of the Guarantee

Here are some of the details of the program, as described by the U.S. Treasury.

The program provides a guarantee based on the number of shares held at the close of business Sept. 19, 2008. Any increase in the number of shares held in the account after that will not be guaranteed.

For example:

• If you owned 100 shares in a money market fund as of the close of business Sept. 19, 2008, but you sold 50 shares the next week, and the following week the fund broke the buck, you'd be guaranteed for 50 shares.
• If you owned 100 shares as of close of business Sept. 19, 2008, and you bought an additional 50 shares the next day, and then the fund broke the buck, you'd receive 100 shares. Upon liquidation, the fund would distribute proceeds to you for the additional 50 shares -- which weren't guaranteed -- at the current net asset value.
• If you owned 100 shares as of close of business Sept. 19, 2008, and then sold 50 shares and later bought 25 shares, payment would be guaranteed for 75 shares.
• If you had no shares as of close of business Sept. 19, 2008, but you later bought 100 shares and then the fund broke the buck, your shares wouldn't participate in the guarantee but you would receive the net asset value.

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