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Short term investment grade debt has a default rate of near-zero and pays more than 3%. See for yourself: https://investor.vanguard.com/etf/profile/VCSH https:

Short term investment grade debt has a default rate of near-zero and pays more than 3%. See for yourself: https://investor.vanguard.com/etf/profile/VCSH https://investor.vanguard.com/etf/profile/VCSH It is entirely possible for them to safely promise a 3% account under these conditions. This is not at all like the financial crisis. It's just wrapping an investment grade bond fund in a bank account interface.

JimboOmega 8y ago
Yeah. But MMFAs can default in ways that aren't guaranteed by the government. The distinction between zero and near zero matters.
- howard941 8y ago
  This is an important distinction. When the money marketeer redeems a dollar for less than a dollar it "Breaks the Buck" [0]. Cowen's MM account IIRC was the first one to do that back during the 01 crash. [0] https://www.investopedia.com/terms/b/breaking-the-buck.asp https://www.investopedia.com/terms/b/breaking-the-buck.asp
  - xxpor 8y ago
    The rules around breaking the buck were significantly changed after 08. Funds can suspend transactions instead now.
    - theseatoms 8y ago
      As if not letting people out is better than letting them out at a haircut. Need to maintain the illusion of safety I suppose.
      - xxpor 8y ago
        Yeah. And the haircut is usually quite small. If I sold my money market for 98 cents on the dollar in a financial crisis I really wouldn't be that upset.
woolvalley 8y ago
When you buy a bond and the interest rate goes up, the nominal value of the debt goes down when the interest rate goes up, while with bank accounts they stay the same. Ex: You buy a $100 bond at %3, then the prime rate goes up %1 so the typical market price of bonds of your class are now %4. Now your bond is worth less than $100 if you were to liquidate it. Big difference.
- pushtheenvelope 8y ago
  that's a good point. However, in this case, won't it be more like a bond-fund, where the fund essentially has a ladder of bonds that are constantly expiring and getting reinvested (and also investing new investments from retail investors), and so the overall value of the fund may still remain close to $100. I could well be wrong, so please feel free to correct me! Trying to learn.
  - woolvalley 8y ago
    Yes bond funds do that to even out interest rate changes kindof, but those fund prices can still go up and down in price as a result of interest rate changes and other market dynamics. If they called this the 'bond fund account' with easy liquidation and buying to make it bank account-ish, then I don't think people would be as upset about this, but it would be a fairly niche financial product.
  - my_first_acct 8y ago
    One risk is that the other investors might suddenly decide for some reason (say a sudden wave of panic) to cash out their holdings in the fund. This would force the fund manager to immediately sell some of the bonds, perhaps at an unfavorable price. Bonds (safe ones) eventually pay out at their full value, but their market price fluctuates before maturity, and a sale forced by other investors could stick you with a loss.
  - motivated_gear 8y ago
    There is a strong difference between Yield to Maturity and effective yield. Yes, If they hold bonds until they mature, specifically government bonds, there will be no loss in principle. What people seem to be misunderstanding is that a yield curve exists. If they were to go the safe route of short maturities, the interest rates will be must lower than long dated securities. If they reach for yield in longer term securities, they will have to mark to market when interest rates rise (which they most likely will due to the fed signaling that they'll be tightening in 2019). You can't have your cake and eat it too
evmar 8y ago
I clicked 'performance' on that page and it says 1.5% over the last five years. Am I reading it wrong?
- all_blue_chucks 8y ago
  Look at the "SEC yield." That's what it pays going forward. Returns were lower over the past five years because the Fed had lowered rates to stimulate the economy.
  - kgwgk 8y ago
    The yield is only part of the return, one has to consider also the change in price. If interest rates go up prices will go down and the actual return will be lower than the yield. Over the last 12 months, the price of the VCSH fund is down more than 2%. This offsets the dividends paid with the coupons received and results in flat performance.
- platz 8y ago
  does 'performance' include dividends?
  - CydeWeys 8y ago
    Yes. This is a marketing website for Vanguard, so of course they want to list the highest return possible, and dividends definitely do count in performance.
- jermaustin1 8y ago
  That's the average annual performance. Interest rates only started climbing over the last couple of years.
nsedlet 8y ago
It may be fairly safe, but it's not risk-free (and certainly not guaranteed by the government). Even if companies don't default, their borrowing rates can still increase, reducing the value of the bond and causing you to lose money. The 3% return is compensation for the added risk. The financial markets are pretty efficient for liquid stuff like this. Banks also provide services that consumers are willing pay for through lower rates on their checking accounts, and need to cover their administrative costs or have some other way of making money with the deposits.
Kiro 8y ago
No, it's much worse than the financial crisis.
rlucas 8y ago
It's very unlikely that regulators and smart money would smile upon "wrapping" VCSH or similar corporate bond fund and trying to transform it thereby into a demand deposit account. A bond fund like that, even with a relatively short duration of 2.65, is going to have significant price movement in the principal amount due to interest rate risk. (Not counting credit risk etc -- credit spreads could move significantly too in a financial crisis.) A big rate move coupled with a big jump in credit spreads could easily move the price of the underlying by several percent in a matter of days. Not so cool when your deposit of $100 can only be cashed out for $97 a few days later.
ummonk 8y ago
Well, we're in a strong economy so of course the default rate will be near-zero. What happens if there is a financial or economic crisis and companies start defaulting?
skywhopper 8y ago
You're assuming they are just holding onto all the deposits and buying these bonds... that strikes me as extremely unlikely.
skywhopper 8y ago
For what it's worth, the point of deposit insurance is not to mitigate against typical situations where bonds behave "like normal" and stick to their typical default rate. The FDIC and SIPC were founded in response to what happens when everyone just turns a blind eye and says "oh, that's totally safe, risk is _near_ zero!"
whatok 8y ago
This is extremely misleading and no one should be using bond funds as a checking/savings account replacement. You have mark to market and liquidity risk here which in normal circumstances you do not have with a savings/checking account. Additionally, Robinhood is reportedly investing proceeds in US Treasuries. US Treasuries have a completely different risk profile than corporate investment grade bonds.
- all_blue_chucks 8y ago
  > no one should be using bond funds as a checking/savings account replacement Literally all money market accounts are bond funds under the hood, actually.
  - whatok 8y ago
    Under the hood vs how they function in everyday situations are completely different things. If I sock away $100 a month for the next 12 months to pay for something, which one is more likely to have >=$1200?
    - bronson 8y ago
      That depends on what you mean by "sock away".
      - whatok 8y ago
        Thought was implied but money market funds vs corporate bond funds.
  - ac29 8y ago
    With the important difference that money market accounts should never lose principle (aka "breaking the buck"). It has happened, but its fairly uncommon. Bond funds, however, frequently can and do lose value - if interest goes up, price goes down (the reverse should also be true, though).
grey-area 8y ago
But it carries more risk. It may not continue to pay 3%. In a financial crisis the money may not be there any more, the companies may go bankrupt en masse for example, or companies that were previously thought to be safe may not be able to meet their obligations. There is no sort of guarantee here, and the SIPC guarantees are supposed to be about making sure investors end up with the securities they purchased, not making investors whole if their investments turn out to be worthless. It is precisely this kind of bundled 'derisked' derivatives which caused the last financial crisis (those were sold as very low risk mortgage debt , these are corporate debt).
icedchai 8y ago
You get your dividend, but the actual price may (and did) decline. Actual performance over the past year is under 0.1%. If you want a guaranteed return you do not buy bonds or stocks. You buy a money market fund like VMMXX. See https://investor.vanguard.com/mutual-funds/profile/performance/vmmxx https://investor.vanguard.com/mutual-funds/profile/performan...
- whatok 8y ago
  Very important distinction between money market funds and checking accounts is that they aren't FDIC insured.
  - icedchai 8y ago
    True, true. But with a megacorp like Vanguard backing it, I'm personally not too concerned...
    - rfinney 8y ago
      Vanguard is not a corporation. It is structured as a mutual company; it is owned by funds managed by the company, and is therefore owned by its customers. See: https://en.wikipedia.org/wiki/The_Vanguard_Group https://en.wikipedia.org/wiki/The_Vanguard_Group
      - icedchai 8y ago
        Vanguard has many pieces and parts, many of which are, indeed, corporations. It says so on the bottom of its website: "Vanguard funds not held in a brokerage account are held by The Vanguard Group, Inc., and are not protected by SIPC. Brokerage assets are held by Vanguard Brokerage Services, a division of Vanguard Marketing Corporation, member FINRA and SIPC." Regardless of its legal structure, I meant "megacorp" in the generic sense of "large company." It is a large company.
        rfinney 8y ago

JimboOmega 8y ago

Yeah. But MMFAs can default in ways that aren't guaranteed by the government. The distinction between zero and near zero matters.

howard941 8y ago
This is an important distinction. When the money marketeer redeems a dollar for less than a dollar it "Breaks the Buck" [0]. Cowen's MM account IIRC was the first one to do that back during the 01 crash. [0] https://www.investopedia.com/terms/b/breaking-the-buck.asp https://www.investopedia.com/terms/b/breaking-the-buck.asp
- xxpor 8y ago
  The rules around breaking the buck were significantly changed after 08. Funds can suspend transactions instead now.
  - theseatoms 8y ago
    As if not letting people out is better than letting them out at a haircut. Need to maintain the illusion of safety I suppose.
    - xxpor 8y ago
      Yeah. And the haircut is usually quite small. If I sold my money market for 98 cents on the dollar in a financial crisis I really wouldn't be that upset.

woolvalley 8y ago

When you buy a bond and the interest rate goes up, the nominal value of the debt goes down when the interest rate goes up, while with bank accounts they stay the same. Ex: You buy a $100 bond at %3, then the prime rate goes up %1 so the typical market price of bonds of your class are now %4. Now your bond is worth less than $100 if you were to liquidate it. Big difference.

pushtheenvelope 8y ago
that's a good point. However, in this case, won't it be more like a bond-fund, where the fund essentially has a ladder of bonds that are constantly expiring and getting reinvested (and also investing new investments from retail investors), and so the overall value of the fund may still remain close to $100. I could well be wrong, so please feel free to correct me! Trying to learn.
- woolvalley 8y ago
  Yes bond funds do that to even out interest rate changes kindof, but those fund prices can still go up and down in price as a result of interest rate changes and other market dynamics. If they called this the 'bond fund account' with easy liquidation and buying to make it bank account-ish, then I don't think people would be as upset about this, but it would be a fairly niche financial product.
- my_first_acct 8y ago
  One risk is that the other investors might suddenly decide for some reason (say a sudden wave of panic) to cash out their holdings in the fund. This would force the fund manager to immediately sell some of the bonds, perhaps at an unfavorable price. Bonds (safe ones) eventually pay out at their full value, but their market price fluctuates before maturity, and a sale forced by other investors could stick you with a loss.
- motivated_gear 8y ago
  There is a strong difference between Yield to Maturity and effective yield. Yes, If they hold bonds until they mature, specifically government bonds, there will be no loss in principle. What people seem to be misunderstanding is that a yield curve exists. If they were to go the safe route of short maturities, the interest rates will be must lower than long dated securities. If they reach for yield in longer term securities, they will have to mark to market when interest rates rise (which they most likely will due to the fed signaling that they'll be tightening in 2019). You can't have your cake and eat it too

evmar 8y ago

I clicked 'performance' on that page and it says 1.5% over the last five years. Am I reading it wrong?

all_blue_chucks 8y ago
Look at the "SEC yield." That's what it pays going forward. Returns were lower over the past five years because the Fed had lowered rates to stimulate the economy.
- kgwgk 8y ago
  The yield is only part of the return, one has to consider also the change in price. If interest rates go up prices will go down and the actual return will be lower than the yield. Over the last 12 months, the price of the VCSH fund is down more than 2%. This offsets the dividends paid with the coupons received and results in flat performance.
platz 8y ago
does 'performance' include dividends?
- CydeWeys 8y ago
  Yes. This is a marketing website for Vanguard, so of course they want to list the highest return possible, and dividends definitely do count in performance.
jermaustin1 8y ago
That's the average annual performance. Interest rates only started climbing over the last couple of years.

nsedlet 8y ago

It may be fairly safe, but it's not risk-free (and certainly not guaranteed by the government). Even if companies don't default, their borrowing rates can still increase, reducing the value of the bond and causing you to lose money. The 3% return is compensation for the added risk. The financial markets are pretty efficient for liquid stuff like this. Banks also provide services that consumers are willing pay for through lower rates on their checking accounts, and need to cover their administrative costs or have some other way of making money with the deposits.

Kiro 8y ago

No, it's much worse than the financial crisis.

rlucas 8y ago

It's very unlikely that regulators and smart money would smile upon "wrapping" VCSH or similar corporate bond fund and trying to transform it thereby into a demand deposit account. A bond fund like that, even with a relatively short duration of 2.65, is going to have significant price movement in the principal amount due to interest rate risk. (Not counting credit risk etc -- credit spreads could move significantly too in a financial crisis.) A big rate move coupled with a big jump in credit spreads could easily move the price of the underlying by several percent in a matter of days. Not so cool when your deposit of $100 can only be cashed out for $97 a few days later.

ummonk 8y ago

Well, we're in a strong economy so of course the default rate will be near-zero. What happens if there is a financial or economic crisis and companies start defaulting?

skywhopper 8y ago

You're assuming they are just holding onto all the deposits and buying these bonds... that strikes me as extremely unlikely.

skywhopper 8y ago

For what it's worth, the point of deposit insurance is not to mitigate against typical situations where bonds behave "like normal" and stick to their typical default rate. The FDIC and SIPC were founded in response to what happens when everyone just turns a blind eye and says "oh, that's totally safe, risk is _near_ zero!"

whatok 8y ago

This is extremely misleading and no one should be using bond funds as a checking/savings account replacement. You have mark to market and liquidity risk here which in normal circumstances you do not have with a savings/checking account. Additionally, Robinhood is reportedly investing proceeds in US Treasuries. US Treasuries have a completely different risk profile than corporate investment grade bonds.

all_blue_chucks 8y ago
> no one should be using bond funds as a checking/savings account replacement Literally all money market accounts are bond funds under the hood, actually.
- whatok 8y ago
  Under the hood vs how they function in everyday situations are completely different things. If I sock away $100 a month for the next 12 months to pay for something, which one is more likely to have >=$1200?
  - bronson 8y ago
    That depends on what you mean by "sock away".
    - whatok 8y ago
      Thought was implied but money market funds vs corporate bond funds.
- ac29 8y ago
  With the important difference that money market accounts should never lose principle (aka "breaking the buck"). It has happened, but its fairly uncommon. Bond funds, however, frequently can and do lose value - if interest goes up, price goes down (the reverse should also be true, though).

grey-area 8y ago

But it carries more risk. It may not continue to pay 3%. In a financial crisis the money may not be there any more, the companies may go bankrupt en masse for example, or companies that were previously thought to be safe may not be able to meet their obligations. There is no sort of guarantee here, and the SIPC guarantees are supposed to be about making sure investors end up with the securities they purchased, not making investors whole if their investments turn out to be worthless. It is precisely this kind of bundled 'derisked' derivatives which caused the last financial crisis (those were sold as very low risk mortgage debt , these are corporate debt).

icedchai 8y ago

You get your dividend, but the actual price may (and did) decline. Actual performance over the past year is under 0.1%. If you want a guaranteed return you do not buy bonds or stocks. You buy a money market fund like VMMXX. See https://investor.vanguard.com/mutual-funds/profile/performance/vmmxx https://investor.vanguard.com/mutual-funds/profile/performan...

whatok 8y ago
Very important distinction between money market funds and checking accounts is that they aren't FDIC insured.
- icedchai 8y ago
  True, true. But with a megacorp like Vanguard backing it, I'm personally not too concerned...
  - rfinney 8y ago
    Vanguard is not a corporation. It is structured as a mutual company; it is owned by funds managed by the company, and is therefore owned by its customers. See: https://en.wikipedia.org/wiki/The_Vanguard_Group https://en.wikipedia.org/wiki/The_Vanguard_Group
    - icedchai 8y ago
      Vanguard has many pieces and parts, many of which are, indeed, corporations. It says so on the bottom of its website: "Vanguard funds not held in a brokerage account are held by The Vanguard Group, Inc., and are not protected by SIPC. Brokerage assets are held by Vanguard Brokerage Services, a division of Vanguard Marketing Corporation, member FINRA and SIPC." Regardless of its legal structure, I meant "megacorp" in the generic sense of "large company." It is a large company.
      - rfinney 8y ago