Bond ETFs vs. Money Market Funds For Short-Term Cash

A reader of Bill Cara's asks:

For short-term parked lump sum funds (say one year), why not just buy Treasury ETFs (SHY; TIP; TLT; IEF) which pay as good or better yields as CD/Money market rates, without the hype & hassle... quick liquidity is not a problem since I can sell ETFs to generate the $$$ I need, when I need, vs. tied up in a CD for 6+months at lower MM rates. TLT's (20 yr) yield is at at 4.97% current.... What difference does it make to me if it's 20 yrs if I can sell the ETF anytime?... The ETFs could fluctuate slightly in value vs. CD or MM but I don't think that’s a lot of risk.

Bill's response:

...money market funds [MMF] are professionally managed, and typically also come with advice of a personal financial advisor... but, as I see it, a MMF is a savings tool, which is a different asset class... On the other hand, an ETF represents a securities trading instrument, which is what traders need.

I believe that index tracking ETF’s are far superior to at least 95 pct of the managed funds available to the public. For example, a Treasury ETF is in my view a superior product because, as you indicate, the costs are less and the liquidity greater. But under the control of a bad trader, any ETF can produce inferior results.

By holding an ETF, what you are in effect saying is that you believe that net-net you can produce portfolio results that are superior to professional traders who actively manage the comparable mutual fund products. For many people that’s a stretch. But since about 80 pct of professionally managed funds under-perform the broad market indexes, I agree you have a good shot.

If you are successful at trading other ETF’s I see no reason you ought not to be using Treasury ETF’s as a replacement for your MMF's.

Two responses from the comments there:

'Maybe I'm missing something, but in one year TLT could easily lose more than 5% and is NOT worth the risk vs. a money market fund... Why don't you just ladder out T-Bills? Then you have a maturity date which ETF's don't have. Also, you can get 4% with a money market fund that has a higher minimum, with full liquidity. Trying to squeeze the extra few basis points in yield is not worth the downside risk.'

'The ETF's are a very convenient liquid way to trade the yield curve. As an alternative to individual bonds and bond funds they are preferable for my purposes... (But) they are not a money market and inappropriate as a cash alternative in my opinion.'

Here's a full, constantly updated listing of US Government Bond ETFs and Broad US Bond ETFs. Note that State Street now offers a 1-3 Month T-Bill ETF (BIL).

Comments

[Augustus:]

Depending upon the trading costs, SHY offers a great place to park the money. Increasing interest rates will have just about the same effect on the value of the MMF assets as on the holdings of SHY. With an account at FolioFn, I have about zero trading costs for an additional trade. Just buy the SHY. Value is computed daily to include the accrued interest and this one trades very very near the NAV.

2007 Apr 23 03:27 PM

[Sol Rosenberg:]

c meng, SHY is not equivalent to a money market fund in terms of interest rate risk. According to etfconnect.com, SHY has an average weighted maturity of 1.87 years. Compare that to money market funds, which typically have average weighted maturities of 30-90 days.

2007 May 06 09:43 PM