Is my money safe in a money market fund with a brokerage firm and what happens if I go bankrupt? - Doctor at FIRE (2023)

With so many bank failures, what would happen if Schwab, Fidelity or Vanguard failed?

Here we continue a series looking at economic change with inflation and volatility.

The current financial climate has people turning to money market accounts and brokerage firms instead of traditional banking.

However, this change in investment strategy also raises concerns about the safety of people's money.

With all these bank crashes, should you worry if Schwab, Vanguard and Fidelity go under?

All three of these companies have money market funds that appear to offer attractive returns compared to today's high-interest savings accounts. The past few months have been particularly alarming for those of us who don't remember 2008.

Is my money safe in a money market fund with a brokerage firm and what happens if I go bankrupt? - Doctor at FIRE (2)

Key takeaways from this article

  • The difference between a bank and a brokerage house
  • What is a money market fund at your brokerage?
  • The brokerage house cannot invest your money as they would like
  • Money you give to a brokerage house must be with a custodian bank
  • Brokerage firms have SIPC insurance that protects $500,000 of your money
  • Many brokerage firms have SIPC excess insurance
  • If a brokerage firm goes bankrupt, assets are transferred from a custodian bank to another brokerage firm
Is my money safe in a money market fund with a brokerage firm and what happens if I go bankrupt? - Doctor at FIRE (3)

Bank vs Brokerage: What's the Difference?

A bank is a financial institution that accepts deposits from the public and creates a demand deposit whiledo simultaneouslywe lend. The key is to make loans at the same time, so keep that in mind before you talk about a brokerage.

Let's start first by looking at Silicon Valley's balance sheet. You see cash is a liability and they have deposits that earn interest.

Ultimately, this is what led to the collapse. A bank takes deposits from customers and uses this cash to invest and provide other products, such as loans. A brokerage firm may have an affiliated bank, but the brokerage firm may not use your money in investments other than where you allocate it.

If the bank does a bad job, we may not get our deposit back. However, we haveFDIC insurancefor $250,000 or $500,000 if it is a joint account. FDIC insurance only covers cash, not investments.

Is my money safe in a money market fund with a brokerage firm and what happens if I go bankrupt? - Doctor at FIRE (4)

Is my money safe in a money market fund with a brokerage firm and what happens if I go bankrupt? - Doctor at FIRE (5)

What is a brokerage?

A brokerage house is aA company that acts as an intermediary that matches buyers and sellers of stocks, bonds and other financial assets.

A brokerage firm is an institution that cannot invest your cash for its own benefit. If you find that your capital is being held and invested, it could be a red flag. They usually make money by managing their capital and providing other services.

At one time this was for stock trading, but Robinhood discontinued it. Now they provide ETFs and other services. They have their cash with a depository. They cannot invest their capital as they wish.

For example, Schwab has $550 billion on its balance sheet but has trillions of capital under management at custodian banks. The money on your balance is not a loan, but rather an asset due to earnings from service fees.

Definition of SIPC Insurance

The Securities Investor Protection Corporation (SIPC) is a non-profit membership corporation created by federal law in 1970. SIPC protects the clients of SIPC member stockbrokers in the event of business failure. Coverage is up to $500,000 per client for all accounts and covers investments up to $250,000 in cash. SIPC insurance is per account holder, i.e. per person. Separate accounts of the same type for the same person, i.e. twotaxable brokerage accounts. Separate types of accounts are covered viz. 401k vs. taxable.

Insurance FDIC vs SIPC

FDIC insurance covers $250,000 per account, while SIPC insurance covers $500,000 per account type. FDIC insurance is general coverage, while SIPC insurance is not.General FDIC Coveragecovers fraud, forgery, forgery, etc.

The SIPC insurance only covers the company's commercial errors. Both policies cover cash, but only SIPC covers investments. SIPC insurance covers stocks, government bonds, money market funds and certificates of deposit (CDs), while FDIC insurance covers checking, savings, joint accounts, money market accounts, certificates of deposit (CDs). finally northneither the FDIC nor the SIPC covers investment fraud.

Insurance FDIC vs SIPC

Insurance coverage amount250,000 USD per account holder (for example, 2 people on a joint account get 500,000 coverage)USD 500,000 per account type
cover cashAndYes (up to $250k)
Covers investmentsNoAnd
what is coveredChecking accounts, savings accounts, joint accounts, money market accounts, certificates of deposit (CDs)

Stocks, government securities, money market funds, certificates of deposit (CDs)

Covers investment fraudNoNo

What is a brokerage money market fund?

A money market fund is a type of mutual fund that invests in short-term, low-risk securities such as certificates of deposit, treasury bills and commercial paper. Money market funds are designed to provide investors with a low-risk, low-return investment option that offers liquidity and stability.

Money market funds generally seek to maintain aStable Net Asset Value (NAV)$1 each share.This means that the fund's investment manager at a brokerage firm tries to keep the value of the fund's assets and liabilities equal to $1 per share. stock. The idea is that this will track a dollar and provide interest/return.As a result, money market funds are often considered a safe place to park cash, as they are relatively stable and easily accessible.

Investors often use money market funds as a place to store cash while they wait to invest in other securities or meet short-term financial obligations. They are also commonly used by businesses and institutions as a way to manage their cash holdings.

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How do money market funds earn higher interest rates?

Money market funds may seek to earn higher interest rates by investing in short-term, higher-yielding securities. This means that the fund manager can invest in securities with longer maturities or lower credit ratings, which have a higherrisks, but also provides higher returns.

For example, a money market fund may invest in commercial paper issued by a company with a slightly lower credit rating, which has a higher yield than commercial paper issued by a company with a higher credit rating. Alternatively, the fund can invest in longer-term securities, such as government bonds or bonds, which also provide higher returns than shorter-term securities.

It is important to note that higher returns generally come with higher risks. Money market funds that invest in riskier securities may be more volatile and have a greater potential for loss. Therefore, investors should carefully evaluate the risks and benefits of investing in a particular money market fund before making a decision.

What are the best money market funds to watch?

Here are some of the best money market funds in the US based on their assets under management and industry reputation:

  1. Vanguard Prime Money Market Fund (VMMXX)
  2. Fidelity Government Money Market Fund (SPAXX)
  3. Schwab Value Advantage Fund (SWVXX)
  4. BlackRock Liquid Asset Fund (BRCXX)
  5. JPMorgan Prime Money Market Fund (JPMXX)

It is important to do extensive research and compare costs,minimum investment requirementsand investment strategies of each fund before making a decision. In addition, investors should consult with a financial advisor to determine which investment option is consistent with their investment objectives and risk tolerance.

So is your money safe in a money market with a brokerage like Vanguard, Schwab, Fidelity, etc.?

Brokerage errors are very rare. You should ask your investment advisor if all the funds in your brokerage house are with a custodian bank. Ask if there is SIPC surplus insurance.

Ultimately, of course, investing is not risk-free. Although we have historically thought of the dollar as low risk, the cost of insuring government bonds in credit default swaps has increased dramatically due to the increased risks we face.discussed last week.

Stay diversified, keep working on your journey toFinancial independence. Personally, we hold our investments in a number of different institutions, whether they are banks, brokerage houses or other financial institutions.

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