Perspectives : Investment | May 18, 2023

An unusual time for money market and stable value funds

Read time: 9 minutes

The Federal Reserve has been raising interest rates at the fastest pace in history to combat the highest inflation seen in decades. Since the beginning of 2022, the federal reserve increased the Federal Funds from near zero to between 5–5.25% (as of May 2023).

The impact of inflation and rising rates has triggered volatility in the markets and even played a role in a few notable bank failures. 

This unusual period has led to a rapid rise in money market yields. It has also presented stable value funds with some challenges and put a spotlight on the two capital preservation products. A look at the differences between the two products can explain why stable value’s recent underperformance versus money markets has occurred, and why it is unlikely to last. 

Similar, but still different

Both money market and stable value funds are focused on capital preservation and secondarily on providing current income. But they feature several important differences:

Money market funds are conservative, highly liquid funds that invest in cash, cash-equivalent securities, and high-quality short-term securities, such as U.S. Treasuries, with an average maturity of no more than 60 days. They seek to maintain a steady net asset value of $1 per share. It’s extremely rare for a money market fund to “break the buck” and fall below that price. Money market funds are widely used by all kinds of investors and organizations.

Stable value funds are also conservative funds. The difference is that they invest in high-quality, short- to intermediate-term bonds, typically with an average duration of 2–4 years. (Duration is a measure of a fund’s sensitivity to interest rate changes, and is derived from the average maturity of its holdings.) And unlike money market funds, stable value funds purchase insurance, called a “wrap,” to protect them against daily price volatility. The wrap allows for a stable NAV, like those of money market funds, while delivering returns from short- and intermediate-term bonds that are typically higher than those from money market instruments.

What’s been the impact on returns?

Money market funds are generally very short-term in nature, so their yields tend to closely follow the federal funds rate. As a result, as the federal funds rate climbed rapidly in the past year, money market yields closely tracked their ascent, as shown below.
Money market returns vs. federal funds rate
Source: Vanguard and Federal Reserve Bank of St. Louis (12/31/1989–3/31/2023).
Meanwhile, the recent performance of many stable value funds has lagged a bit. Historically, because of the longer-term nature of stable value’s holdings, they have usually returned a premium over money markets: 1.33% on average annually over 10 years and just over 2% since 1990.* As shown below, the typical holdings of stable value funds have performed well in various periods over the past 10 years. However, money markets have closed the gap more recently.
Annualized performance: Money markets vs. stable value
Source: Vanguard, as of March 31, 2023.

The challenge faced by stable value

The unexpected magnitude of inflation forced the Federal Open Market Committee to rapidly increase short-term rates, which has created an inversion of the yield curve. This is when short-term rates exceed those of longer-term rates, as shown below.
The yield curve changes shape
Source: Bloomberg.
Yield curve inversions occur when short-term investments pay more than longer-term ones. This inverted curve is generally unsustainable, lasting on average 6 to 9 months. The phenomenon is viewed as a negative sign for the economy, often signaling an imminent recession. Since 1978, we have seen six inversions of the U.S. Treasury yield curve. The chart below illustrates the length (in days) of previous inversions. The chart compares inversions of the 3-month and 3-year Treasuries, and the 2-year and 10-year Treasuries. The current inversion period has passed the average length of the previous inversions, which could be viewed as a signal that the current cycle could be nearing an end.

Inverted Treasury yield curves: How long can they last?

Source: Investment Management Fintech Strategies, as of 3/31/23.

A temporary condition

Besides the yield curve inversion, stable value funds face another temporary headwind. Stable value funds are still holding older bonds with the lower yields of recent years. The income earned by a stable value fund, called the crediting rate, moves toward current market rates, albeit with a lag, due to the amortization of the gains or losses experienced by the fund’s underlying fixed income holdings.

Lately, the value of stable value’s existing holdings has declined—an inevitable result of the math of the bond market: Older bonds issued when rates were lower fall in price because newer, higher-yielding bonds are more desirable. It takes stable value funds some time for their older holdings to reach maturity and to be replaced by newer bonds with today’s higher yields. Assuming yields stay higher, the newer, higher-yielding bonds should eventually help boost stable value’s total return.

Given the current environment, what can we expect?

Money market rates are expected to continue to track the federal funds rate with a much shorter time lag as they react quickly to changes in current economic policy. Since stable value rates typically experience a longer lag, one can expect stable value rates to continue to migrate toward the current rates over the next couple of years.

In summary, historically stable value has added a premium over money market funds, but there can be times where the premium diminishes or even becomes negative. Generally, those periods are limited in nature and unsustainable. Over the longer term, you can expect interest rates to revert to “normal,” money market yields to quickly follow, and stable value to return to delivering a premium over money markets as a result of the longer-term nature of its investments.

What should investors consider?

Regardless of the path of interest rates moving forward, because the underlying securities of stable value are longer in duration and have more credit risk associated with them, investors, over the long term, should be compensated for that additional risk. While acknowledging there will be times when money market rates exceed stable value rates, the longer-term compensation case of stable value remains: providing higher yields relative to money market funds while also helping to ensure capital preservation.

Of course, yield isn’t the only factor to consider in choosing between money market and stable value funds. Stable value may be regulated to some degree under banking or insurance law but do not have the same level of public reporting and disclosure requirements that apply to SEC-regulated investments like money market funds. In addition, stable value funds rely on insurance contracts to provide their $1 NAV, and like any insurance policies, there are limits to what the insurer will cover. A stable value fund typically provides for payment at $1 per share only for daily participant transactions.

Ultimately, it’s important to work with your counsel or advisor to understand and properly evaluate stable value’s risks and benefits compared with money market funds.

*Rolling 12-month difference, as of 3/31/2023. Source: Morningstar Inc.


  • All investing is subject to risk, including possible loss of principal. There may be other material differences between products that must be considered prior to investing.

Michael Montanez, CFA
Portfolio Manager,
Stable Value

Michael Plink, CFA
Senior Fixed Income
Product Manager