NASAA Series 66 Uniform Combined State Law ExaminationInvestment Vehicle CharacteristicsMedium
A client is looking for a short-term investment for their emergency fund. They prioritize safety of principal and immediate liquidity. They are willing to accept a very low return. Which of the following would be the most suitable recommendation?
- ACertificate of Deposit (CD) with a 5-year term
- BGrowth Stock Mutual Fund
- CTreasury Bond
- DMoney Market Fund
Show answer & explanationAnswer & explanation
Correct answer: D. Money Market Fund
Money market funds are designed for safety of principal, high liquidity, and offer a very low but stable return, making them ideal for emergency funds. CDs (especially long-term ones), Treasury bonds (due to interest rate risk), and growth stock funds (due to volatility) do not meet the immediate liquidity and safety requirements as well.
Why the other options are wrong
- A. A 5-year CD locks up funds for a longer period and may incur penalties for early withdrawal, violating immediate liquidity.
- B. Growth stock mutual funds are volatile and carry significant market risk, making them unsuitable for an emergency fund requiring safety of principal.
- C. Treasury bonds have interest rate risk, which can affect principal value, and may not offer immediate liquidity without market fluctuation.
Money Market Fund
A type of mutual fund that invests in high-quality, short-term debt instruments, offering high liquidity and capital preservation.
- Invests in T-bills, commercial paper, CDs, etc.
- Typically maintains a stable Net Asset Value (NAV) of $1 per share.
- Offers daily liquidity and very low investment risk.
- Returns are generally low but stable.
Memory trick: Money markets are for quick, safe cash needs.