Where should you put money that you will need in two years’ time?

CAPE TOWN – In this advice column Rick Briers-Danks from Veritas Wealth answers a question from a reader who wants to know where to put short-term savings.

Q: I have about R100 000 which I would like to invest with little or no risk whilst keeping up with inflation at the same time. This is the money for my wedding, which I anticipate will be happening in the next two years.

My research tells me that a money market account is the appropriate investment tool. Would you agree? If so, how do I go about choosing one, there are so many available?

Firstly, well done for accumulating this money towards your wedding. It shows serious determination and commitment to a savings plan.

As your investment time horizon is only two years we would agree that using some form of money market is the appropriate investment tool. This is because you can’t afford the risk of too much volatility in the short term.

The main disadvantage of any money market investment, however, is that it probably won’t keep up with inflation over the longer term. For this reason, money market investments are often opened by those who are looking for an interim place to “park” a sum of money for a deposit on a home for example or saving for a wedding in your case.

Having established that the money market is probably the appropriate investment mandate for the funds the next question is which type to use. Not many people are aware but there are two types of money market investments – money market accounts and money market funds.

Money market account

A money market account is offered by a bank, which is a deposit-taking institution. It is an alternative to a savings account or fixed deposit.

Unlike a fixed deposit there is no defined investment term so funds can be invested indefinitely and the rate of return will vary depending on the deposit balance. It is likely to return a slightly lower rate of interest than a fixed deposit account mainly because it is more liquid with quicker access to your funds.

Money market fund

Money market funds are unit trust-based investments governed by the Collective Investment Schemes Control Act. These are not deposits, but funds that own a range of underlying instruments.

Unlike money invested with banks there is no “fixed” yield on these funds. Instead the yield, or the percentage of interest earned, moves up and down in accordance with the interest earned on the investments in the money market fund.

The quoted yield on money market funds may fluctuate every working day. Investors in money market funds have to carry the possibility of a decrease in yields, although not in capital.

A money market fund will generally return a higher return than money market accounts offered by banks, but they are not free of risk. We saw this recently when some managers allocated a portion of their funds to African Bank debt and investors suffered write-downs as a result.

Money market account or money market fund?

Both investments share many characteristics, including easy access to your money, being invested in very safe holdings, and higher rates of return than regular savings accounts.

There are however a few differences.

Like regular current and savings accounts, money market accounts offered by banks are considered to be very secure investments as banks have to comply with stringent capital and liquidity requirements.

Money market funds are however not governed like banks and hence are not as secure, even though they are considered generally very safe. In order to increase their yields the managers of these funds aim to allocate the capital across the yield curve and will allocate to higher yielding corporate debt to increase the yield. This of course exposes the fund to some risk as the corporate entity may not be able to repay the debt and the returns of these funds will be impacted.

The slightly higher risk for money market funds usually translates into a higher yield.

In your case we would recommend that you look at the current yields that your bank will offer you both for a fixed deposit and a money market account and compare this against what money market unit trusts are currently yielding. You may find that you will be better off using a money market fund as the higher yield justifies the slightly higher risk.

There are more than 30 money market unit trusts to choose from and you can look at the daily newspaper for current yields. From a yield point of view there is normally not much difference between them and you should stick with a reputable unit trust manager that has a good long-term track record that you are comfortable with.

Rick Briers-Danks is a partner with Veritas Wealth in Cape Town.

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