Central bank interest rate rises mean that investors can finally get a good return on their cash. In the UK, the Bank of England base rate is now 5.25%, but markets think that the rate-hiking cycle may be near its end and that rates could fall in 2024 to stimulate the economy. Higher rates have knock-on effects for bond yields, sending them higher, as well as the returns from easy-access and fixed-term savings accounts. Investors have a number of options to put their cash to work in this new higher-yield environment. While they could buy UK government bonds (gilts), which yield around 4%, picking the right gilt can be complicated and is generally the reserve of only the most sophisticated DIY investors. They could also stray into the bond market, where yields are even higher. However, bond prices can be very volatile, and investors could be hit with capital losses even if the income is stable. Savings accounts are another option, but yields tend to lag bond market equivalents. Moreover, unless the account is inside a cash ISA, where returns are lower, then savers may have to pay tax on their returns. Basic-rate taxpayers (up to £50,270 annual income) get a £1,000 tax-free savings allowance, while higher-rate payers (up to £125,140 annual income) get £500 and additional rate payers (earning more than £125,140) get nothing. Any savings interest above the thresholds is taxed at income tax rates. Money market funds are a viable in-between option, offering the income of gilts, but without the complexity, while also mitigating the risk of bond price fluctuations. They can be held inside ISAs and SIPPS. 
Money market funds could fit the bill
They own a diversified basket of safe bonds that are due to mature soon, normally within a year, meaning that investors can earn an income on their cash with minimal risk. They can also put money into bank deposit accounts.
Since December 2021, the assets held by interactive investor customers in money market funds, as well as the number of customers investing in the funds, has increased more than four-fold.
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Fund industry trade body the Investment Association (IA) categorises money market funds into two buckets: short term and standard term funds.
Short-term funds are lower risk. Fund managers try to ensure the highest possible level of safety by keeping very short duration bonds and high-quality bonds in the portfolio.
Standard money market funds generally deliver slightly higher returns by owning bonds that have slightly longer maturity dates.
The highest yielding short-term money market funds on the ii platform, as of 12 February 2024, includeRoyal London Short Term Money Market (5.25%), (5.3%) and Fidelity Cash(4.97%)
The Royal London Short Term Money Market fund is one of interactive investor’s Investment Pathways options for investing in drawdown to access all or part of your pension. The Royal London option is for those planning to take out all their money within the next five years.
| Fund | Ongoing charges figure (%) | Yield (%) | Fund size (£million) |
| Royal London Short Term Money Market | 0.1 | 5.25 | 6629 |
| 0.15 | 5.3 | 3086 | |
| Fidelity Cash | 0.15 | 4.97 | 1134 |
Source: FE Analytics, 12February 2024. Past performance is not a guide to future performance.
The highest-yielding standard money market funds on the ii platform include: Premier Miton UK Money Market (5.77%), Invesco Money (UK) No Trail (4.01%) and abrdn Sterling Money Market (5.2%)
| Fund | Ongoing charges figure (%) | Yield (%) | Fund size (£million) |
| Premier Miton UK Money Market | 0.26 | 5.77 | 408 |
| Invesco Money (UK) No Trail | 0.15 | 4.01 | 174 |
| abrdn Sterling Money Market | 0.15 | 5.2 | 866 |
Source: FE Analytics 12February 2024 / arbdn.Past performance is not a guide to future performance.
Dzmitry Lipski, head of funds research at interactive investor, says: “Royal London Short Term Money Market stands out most to us in the sector. It has an excellent long-term track record, low drawdowns and is competitively priced with a yearly ongoing charge of 0.10%.
“The fund seeks to maximise income by investing in high quality, short-dated cash instruments. The managers place particular emphasis on the security of the counterparties it lends to, while ensuring daily liquidity.”
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The interest paid by money market funds will fluctuate with bond market yields, which are closely linked to central bank interest rates. This means they will rise when yields rise, but will fall when yields fall.
Lipski adds: “As interest rates are expected to continue rising and given the short-dated nature of the holdings in money market funds, this would soon result in an equivalent increase in the returns of the funds.”
Advantages of a money market fund
- Very low risk, with the portfolio likely to at least hold its value and also pay out a modest income
- Diversified, meaning investors are not exposed to a single bond failing and can withdraw their money easily
- Can be held in a tax-friendly wrapper, such as an ISA or SIPP.
Disadvantages of a money market fund
- Investments may fall in value, unlike savings accounts
- Not suitable for growing savings over the long term as yields are typically below inflation
- Sensitive to interest rate fluctuations, with lower rates leading to lower yields. Yields rise when interest rates rise
- The Bank of England warns that in times of market panic and a rush to cash, there may be liquidity issues in money market funds.
This article was originally published on 30 October 2023 and updated on 12 February 2024.
These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.
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Please remember, investment value can go up or down and you could get back less than you invest. If you’re in any doubt about the suitability of a stocks & shares ISA, you should seek independent financial advice. The tax treatment of this product depends on your individual circ*mstances and may change in future. If you are uncertain about the tax treatment of the product you should contact HMRC or seek independent tax advice.
Important information –SIPPs are aimed at people happy to make their own investment decisions. Investment value can go up or down and you could get back less than you invest. You can normally only access the money from age 55 (57 from 2028). We recommend seeking advice from a suitably qualified financial adviser before making any decisions. Pension and tax rules depend on your circ*mstances and may change in future.
