Investors seeking shelter from plummeting equity markets in September 2008 learned a hard lesson: Sometimes the safe haven for your cash isn't as safe as it seems.
Prior to the crisis, retail investors turned to money market funds as a way to stash cash for short-term needs and earn some yield on their savings.
The perceived safety of these funds, which were designed to maintain a steady share price of $1, was upended following the bankruptcy filing by Lehman Brothers, one of Wall Street's most storied firms, 10 years ago this month.
The Reserve Primary Fund, a massive money market fund, held Lehman bonds. Institutional investors yanked billions of dollars from the fund, which knocked its share price from $1 to 97 cents on Sept. 16, 2008.
This is known as "breaking the buck."
"It was a wake-up call for investors who had gotten complacent for thinking a money market fund was as good as having money in a savings account," said Christine Benz, director of personal finance at Morningstar.
"What we learned was that the protections aren't the same for mutual funds," she said.
Here's what has changed.
Low yields
Back in 2008, Benjamin Brandt, then 27, had just started his career as a financial advisor.
"I didn't have clients, but I was doing joint field work with advisors who were dealing with those 700- and 800-point down days," he said.
Investors at the firm where he had worked were in a different money market fund, one that managed to avoid the losses that plagued the Reserve Primary.
For eight years, up to the end of 2015, investors were looking at interest rates of 0.05 percent. I used to joke that at those levels, it would take 2,000 years to double your money.Pete CraneCrane Data
"Their money market fund didn't break the buck, but it didn't offer yields that were as attractive," said Brandt, now a certified financial planner and founder of Capital City Wealth Management.
See below for a chart of money market fund yields over the last 10 years.
Indeed, around the time of the crisis, the institutional share class of the Reserve Primary Fund (RPFXX) had an average trailing 12-month yield of 4.04 percent, according to Morningstar.
The Federal Reserve's decision to slash interest rates to near zero in order to combat the impending recession also hurt money market fund investors.
"In 2007, we had 5 percent interest rates and then for eight years, up to the end of 2015, investors were looking at rates of 0.05 percent," said Pete Crane, president of Crane Data, a provider of money market fund data.
"I used to joke that at those levels, it would take 2,000 years to double your money," he said.
Redefine safety
Investors seeking safety and an attractive yield needed to ask a difficult question following the crisis.
"Are you making an investment, or are you saving your cash?" asked Dave Stolz, a CPA and member of the American Institute of CPAs' personal financial specialist credential committee.
"Everyone thought they were saving cash, but it was an investment and it could decline," he said. "It affected liquidity and how quickly you could get out."
For Brandt's clients, particularly those who are retired, this means coming to grips with the fact that cash isn't intended to earn big returns.
If it's not cheap, and the yield is compelling, there may be some risk-taking going on under the hood.Christine Benzdirector of personal finance at Morningstar
He runs fire drills for retired clients to help them determine how many months' worth of expenses they can cover using low-risk assets.
"Cash is not a return vehicle," Brandt said. "The farther we stick our necks out on the yield spectrum, the more we stick our necks out on the risk spectrum."
Protective measures
In response to the financial crisis, the Securities and Exchange Commission sought to protect retail investors from future runs on money market funds.
The agency instituted two major rules to protect smaller investors and stem the flow of withdrawls in stressful periods.
One regulation would require prime institutional money market funds — which large investors tend to use — to maintain a floating net asset value, instead of the steady $1 share price.
A floating NAV, which is based on the market value of the fund's shares, removes the incentive for large institutional investors to cash out during market distress. They will likely log a loss if they try to bail out while the share price moves downward.
The other rule aims to temporarily limit withdrawals from funds amid stressful periods.
For instance, so-called redemption gates allow funds' boards of directors to delay withdrawals for up to 10 days. Liquidity fees, which can be as high as 2 percent, may also be assessed against investors who want to cash out amid market turmoil.
Mom and Pop investors
Since the reforms, retail investors with IRAs and brokerage accounts continue to have access to retail prime and municipal money market funds with a $1 share price.
U.S. government money market funds that are open to institutional and retail investors can also keep their $1 share price.
Some IRA providers and brokerage firms have swapped out the money market settlement funds investors use to cover their stock and mutual fund purchases and are now using government money market funds, which are not required to impose liquidity fees and redemption gates.
The farther we stick our necks out on the yield spectrum, the more we stick our necks out on the risk spectrum.Benjamin Brandtfounder, Capital City Wealth Management
Some retirement plans, meanwhile, have made the change from prime or municipal funds to U.S. government money market funds. That's because these government funds can maintain their steady $1 share price.
Other retirement plans turned to so-called stable value funds, which combine insurance and bonds, in order to seek higher yields and principal protection.
Shopping for yield
As interest rates continue to rise, investors now have a few options as to where they can store their short-term cash.
"Now that we have begun seeing yields pop up to more meaningful levels, it's important to shop around," said Morningstar's Benz.
The Crane 100 Money Fund Index, which measures the 100 largest money market funds, has an annualized seven-day current yield of 1.79 percent. The Vanguard Prime Money Market Fund (VMMXX) offers yields just over 2 percent.
The national average rate on money market accounts for deposits under $100,000 is 0.13 percent as of Aug. 27, according to the Federal Deposit Insurance Corp.
Some banks, however, offer rates approaching 2 percent on these accounts.
Bear in mind that money market funds aren't the same as money market deposit accounts: The latter is FDIC-insured, up to $250,000 per depositor, per insured bank, just like your CDs and checking and savings accounts.
Another cash alternative would be your brokerage sweep account, the bank account where your firm socks away dividends and portfolio income. The downside: Firms are paying about 0.25 percent on these deposits.
Whatever you choose, consider the tradeoff between your yield and safety, and strive to select a low-cost option.
"If it's not cheap, and the yield is compelling, there may be some risk-taking going on under the hood," said Benz.
(Clarification: Morningstar has amended a report on money market funds to remove the average return for all share classes when compared with the Reserve Primary institutional class. This story has been updated accordingly.)
