The Big Picture
Last Updated: 12-Sep-25 14:54 ET | Archive
A record $7 trillion+ in money market funds is facing pay cuts
Briefing.com Summary:
*Real returns for money market funds are eroding with inflation near 3% and rate cuts on the way.
*Liquidity and safety keep money market funds attractive, but yield compression will drive partial outflows.
*Cash migration depends on confidence that rate cuts sustain growth without reigniting inflation.
Can you hear it with the major indices rallying to new record highs? That is the sound of rate cuts coming. But even if you can't hear it, you can see it in the fed funds futures market.
There is a 100% probability of at least a 25-basis-point cut to 4.00-4.25% at the September FOMC meeting, an 86.3% probability of at least a 25-basis-point cut to 3.75-4.00% at the October meeting, and an 80.9% probability of at least a 25-basis-point rate cut at the December meeting, according to the CME FedWatch Tool.
That is rather remarkable with inflation hovering closer to 3.0% than 2.0%, and the Atlanta Fed GDPNow model estimating real GDP growth of 3.1% on an annualized basis for the third quarter. That hasn't typically been a combination screaming for rate cuts, but with nonfarm payroll growth slowing to stall speed in recent months, Fed officials are sounding more motivated by the employment side of their mandate to justify a rate cut, at least at the September FOMC meeting.
The stock market is loving the idea, partly because the Treasury market has been pricing in the idea, too, leading to lower market rates that have provided stocks with some extra valuation allowance on the premise that the lower rates will facilitate ongoing economic and earnings growth.
The stock market, though, may also just be loving the idea that there are gobs of cash on the sidelines that may soon be looking for a higher-yielding home.
Seven Trillion and Counting
Currently, there is over $7 trillion sitting in money market mutual funds. That is an all-time high, and it is roughly 13% of the S&P 500's market capitalization.
Assets in money market funds surged during the COVID crisis and subsequently accelerated with the normalization of interest rates that followed the Fed's rate-hike campaign in 2022 and 2023. In turn, they have surged with the stock market and home price appreciation that have been huge wealth-generating engines.
Separately, assets in money market funds have surged as part of a safe-haven trade tied to concerns about geopolitics, tariffs, and valuations. Money market funds offer a place to park cash and still generate income in a nearly risk-free way with higher yields than one would get in a normal savings account. Generally speaking, prime money market funds yield something on the order of 3.8% to 4.4% these days.
Money market funds typically invest in high-quality instruments with a shorter duration, like T-bills, certificates of deposit, commercial paper, and repurchase agreements, all of which can be easily exchanged for cash.
Briefing.com Analyst Insight
Where the Federal Reserve's policy rate goes, rates on shorter-duration instruments typically follow. One can infer, then, with the fed funds futures market pricing in three rate cuts before the end of the year, that the yields on money market funds are apt to be coming down in the months ahead, assuming the market has things right.
The far right side of the chart above shows a trendline break between the 3-month T-bill yield and the effective fed funds rate. The chart below captures that break in closer detail, and what it reveals is a market frontrunning the rate cut(s).
It is notable that the inflation rate is closer to 3.0%, so returns on money market funds are coming down on an inflation-adjusted basis, diminishing some of their appeal when real rates were higher. It is an inflection point that will send some (not all) money market fund investors looking elsewhere for higher real rates of return.
The ongoing appeal of money market funds is that they are highly liquid, nearly risk-free, and still offer a better return than anything one can get in a basic savings account, which is why "all" investors won't be fleeing money market funds simply because the Fed is cutting rates. Also, they are good parking spots for investors with more immediate cash needs.
We would expect some migration to other parts of the market, however, that have higher-yielding appeal. That would include Treasuries with longer duration, corporate bonds, and, yes, the stock market, which holds much more risk but appealing return potential on a nominal and real basis.
To be sure, no one is scurrying out of their money market fund to capture a 1.49% dividend yield for the S&P 500. The rotation out of money market funds to the stock market would be about total return and an expectation that the stock market will retain its bullish bias.
With $7 trillion-plus facing pay cuts, so to speak, higher returns will be sought elsewhere. That may just work in the stock market's favor if confidence in the rate cut approach is corroborated by the future data.
