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Give me one good reason you should stay in money market funds

September: The bummer that ends the summer on the stock markets.

As volatile as the markets have been this year, you had to figure September would live up to its billing as the worst month of the year for stocks. So far, so bad. Two trading days into the month, and we have a vintage performance in the making.

Worried? Lots of you are. Why else would there be a humungous $71.6-billion sitting in money market funds, where the returns are minimal but the safety level is high.

Money market fund assets have soared in the past year to the extent that they contained almost 46-per-cent more money at the end of July than they did 12 months earlier. As a sign of stock market sentiment among individual investors, that's somewhere between despair and despondency.

Snap out of it, people. Every day the markets fall, they offer even more reason to start buying stocks again.

Let's talk about risks. Risk is what you call the 2.5-per-cent return you're getting at best in many of the most popular money market funds right now. The latest reading on inflation from Statistics Canada found the cost of living to be 3.4-per-cent higher than it was 12 months earlier. In essence, holding money market funds today is like taking a 0.9-per-cent after-inflation decline in your holdings.

You can lose a lot more than that in the stock market, for sure. U.S. stock indexes are down by double-digit amounts this year, and the best thing you can say about the S&P/TSX composite index is that it has given up less ground. These setbacks look mild when compared with the declines the markets endured during the three-year bear market that opened this decade.

Where the stock markets gain the upper hand over money market funds is in the long term, say, over 10 years. The 10-year compound average annual return for the S&P/TSX composite to July 31 was 9 per cent (dividends included), while the average Canadian money market fund return was 3 per cent.

That's a comparison that favours the stock market, which, over the past several years, has been abnormally strong. So let's look at the 10-year comparisons you would have found in September, 2002, when the last bear market was in full sway. Canadian equity funds had a 10-year average annual return of 7.8 per cent back then. As for money market funds, the average 10-year return for the comparable 10-year period was 4 per cent.

With interest rates in a long-term rut, 3 to 4 per cent is the best you can hope for from a money market fund today. Invest in stocks if you need higher returns than that and have a time frame that will permit the market's surges to overwhelm its slumps. And start doing it now, even if we're just entering the always-treacherous month of September.

Mark Hulbert, an evaluator of investing newsletters, said in a recent column on the website that the Dow Jones industrial average has posted an average loss of 1.13 per cent through all the Septembers since it was created in 1896. That compares to average gains of 0.75 per cent in each of the other 11 months over the same period of 112 years.

You might as well call September the best month to buy stocks, too. Chosen with care, the companies you buy now could be the stars in your portfolio when the next upswing on the stock market occurs.

There are two psychological impediments to buying low. One is that you have to defy the tide of negative headlines and utterances from professional market strategists who are paid to be right about what the market will do tomorrow and the next day, with much less emphasis on a year or two from now.

The second is the feeling of embarrassment, even shame, when you buy into beaten-down stocks or mutual funds that promptly fall further. It's almost as if the market is sending you a message: "rookie, amateur."

It's a peculiarity of stocks that they often rebound in an erratic way. They move higher, fall back, move higher again and then fall further still. Almost never does an investor, even a professional, manage to put money in a stock on the day it hits rock bottom.

So you need patience if you're going to venture out of a money market fund right now. Patience and the conviction that dipping into your money market fund in the midst of September's storm is a better strategy than waiting until the foul weather blows over.

One argument on the side of staying in money market funds: They make a nice vantage point from which to watch other investors enjoy the next rally on the stock markets.

Stocking up on money market funds

Stock market turbulence has prompted investors to crowd into money market funds, even though they typically yield only about 2.5 per cent these days. Here are some numbers to document the flow of dollars into money market funds.

Purchases of Canadian MMFs in July$1.1-billion
Canadian MMFs purchased in July, 2007$246-million
Total MMF assets at July 31$71.6-billion
Year-over-year growth in MMF assets45.60%



© 2007 The Globe and Mail. All rights reserved.

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