An extraordinary price war is going on in the world of investment platforms, with the interest paid on both uninvested cash and in cash Isas and self-invested personal pensions shooting up as providers seek an edge in an increasingly competitive market.
Not too long ago I’d regularly complain that my uninvested cash earned next to nothing, though to be fair it was an era of rock-bottom interest rates. Now, though, providers’ adverts boast interest rates north of 4 per cent on cash and uninvested stocks and shares.
Is it all too good to be true, or have the investment platforms finally realised that low-cost stock trading is not enough to lure new customers?
Powering this interest rate revolution is the rapid embrace of a tried and trusted financial structure: the money market fund. MMFs pool money from investors to buy short-term, low-risk debt such as government bonds and are used as a short-term liquidity tool. A so-called “qualifying” MMF (QMMF) can be used in a cash Isa. And there’s a fair chance your investment platform has put your cash into such products.
Take the popular low-cost trading app Trading 212. Its stocks-and-shares Isas offer a headline rate of 4.6 per cent for uninvested cash, paid monthly. Meanwhile, Netwealth’s Liquid Reserves Portfolio has a 4.5 per cent gross yield and is made up of low-risk MMFs and ultra-short-term bonds. By comparison, Hargreaves Lansdown, pays between 2.3 and 3.15 per cent for uninvested cash in its various Isas and less for general dealing accounts.
MMFs comply with strict European regulations, which ensure ample liquidity and lower risk. They aim to pay back every £1 invested and are regarded as haven investments that can be liquidated quickly.
Crucially, qualifying MMFs in particular provide multiple intraday access points and are structured to maintain daily liquidity, even under stress, whereas traditional MMFs may impose liquidity gates, or fees, during crises.
Roberto Rossignoli, portfolio manager and head of research at Moneyfarm, which uses QMMFs in its products, notes that these funds must “invest exclusively in high-quality money market instruments with a maturity of no more than 397 days and a weighted average maturity of no more than 60 days”, and provide liquidity through same-day or next-day settlement.
He adds that keeping an eye on costs is crucial and “every basis point matters”.
BlackRock’s ICS Sterling Liquidity Fund — which has more than £42bn under management and is used by several investment platforms — is AAA rated, invests in a broad range of high-quality fixed income securities and short-term debt securities, and has a management fee of 0.10 per cent. It yields just under 4.5 per cent.
Just over 30 per cent of the fund’s assets mature daily and it has a weighted average maturity of 54 days. Like many of its peers, it invests in various assets, including 43 per cent in certificates of deposits, where investors deposit a lump sum with a bank for a pre-determined period, just under 20 per cent in repurchase agreements and about 10 per cent in commercial paper.
The mix of assets in such funds varies enormously, however, and are “heavily actively managed”, Rossignoli notes.
Goldman Sachs’ widely used Sterling Liquid Reserves fund — which has total assets of £13bn and yields 4.41 per cent — holds more than 30 per cent in certificates of deposit, 24 per cent in repurchase agreements, 12.8 per cent in sovereign debt, and 12.3 per cent in asset backed paper.
Still, most tend to focus on a handful of key instruments, notably certificates of deposits, as well as repurchase agreements or “repo”. A repo involves selling securities to a counterparty (a bank or dealer) with an agreement to repurchase them later at a slightly higher price, in effect acting as a short-term loan. The difference between the sale and repurchase prices reflects the interest earned (repo rate).
Why are these money market funds so popular? In simple terms they usually offer higher interest rates than traditional savings or deposit structures while also providing daily liquidity. Crucially, the funds usually achieve absolute capital preservation via a diversified portfolio of assets.
But there’s no free lunch in investment and there are some risks.
The big one is that neither qualifying nor standard money market funds are directly protected by the Financial Services Compensation Scheme. However, investment platforms usually offer FSCS protection up to £85,000.
Also, capital losses — known in the US as “breaking the buck” — can happen. In 1978, for instance, one fund repaid only $0.94 per share, while in 1994, another only paid back $0.96. More recently, in 2008, the Reserve Primary fund only paid out $0.97 after the collapse of the Lehman Brothers impacted its commercial paper holdings.
Though a loss of capital is mercifully rare, there is still a chance that in a major global financial crisis, you might not be able to get hold of your cash in an instant. In a mainstream MMF, you might be repaid whole after a few days.
Interest rates also pose a more obvious risk: as rates change, so does the payout. In addition, with daily pricing, you might see tiny variations between the fund’s net asset value and the offer price, but usually no more than 20 basis points around £1.
When investing directly in any type of money market fund, you should focus on factors such as the strength of key issuers and the liquidity of instruments, according to Jack Stockdale at wealth manager Killik and Co. “Equally, the fund’s scale, credit rating and the asset manager’s reputation are also useful indicators,” he adds.
Stockdale also suggests comparing these funds’ yields with those of ultra-safe instruments such as gilts. You could, for instance, buy a low-coupon (interest rate) gilt at a price below par then hold to redemption, at which point any capital gains are tax free — a very useful feature, particularly for higher- and additional-rate taxpayers.
David Stevenson is an active private investor. Email: adventurous@ft.com. X: @advinvestor.
