Cash equivalents for EU investors

Cash
In the investment world, we speak of cash as a collection of short-term investment instruments that are highly liquid and easily converted into ready cash. These investments make up the money markets. The short-term nature of all money market instruments means that they rapidly adjust to changes in short term interest rates. Cash includes familiar bank instruments such as transaction and savings accounts, as well as short term bank certificates of deposit (CDs). Cash also includes a number of marketable liquid securities bought and sold on the money markets. These securities include treasury bills, institutional large bank CDs, commercial paper, bankers acceptances, and repos. Short term municipal securities are held by tax-exempt money funds. Cash investments are held by investors for a number of reasons, primarily as liquid emergency reserves and for funding obligations due in the short to intermediate term.

There are some differences between the various cash instruments in the different world regions. The US system is undoubtedly the most developed and offers the greatest number of options to the retail investor. In non US regions the picture is quite different and varied. In this section we will look at the options available and their relevance to the retail investor in the EU.

The assets available for retail investors in the EU as alternatives to bank deposit accounts require careful consideration before any decision to invest is made, some of these assets are not widely available for retail investors such as money market funds, and advice from a qualified and certified adviser should be sought. Although generally these investment assets such as money market funds, short term bonds and ultra short term bonds have reduced risk levels over other assets such as equities and long term bonds, they retain capital loss risks.

US Deposit Guarantee System
In the US the FIDIC system operates so as to provide a significant protection to ordinary investors for their deposits. The standard insurance amount is $250,000 per depositor, per insured bank, for each account ownership category.

EU Deposit Guarantee System
In the EU there is a similar system which however is much less generous and is confined to participating banks providing a €100,000 deposit guarantee per depositor per bank. This situation results in significant deposit risks for an EU retail investor who wishes to hold readily accessible and secure "cash" amounts over €100,000. The (DGS) reimburse a limited amount to compensate depositors whose bank has failed. A fundamental principle underlying DGS is that they are funded entirely by banks, and that no taxpayer funds are used.

Under EU rules, deposit guarantee schemes seek to:


 * protect depositors' savings by guaranteeing deposits of up to €100,000
 * help prevent the mass withdrawal of deposits in the case of bank failure, which can create financial instability

In 2014, the EU adopted Directive 2014/49/EU. It requires EU countries to introduce laws setting up at least 1 DGS that all banks must join. EU countries must


 * ensure a harmonised level of protection for depositors
 * produce lists of the types of deposits that are protected

Cyprus "haircut"
The degree of deposit protection is dependent upon the regulations introduced on a country by country basis within the EU. The threat to investors deposits in EU country banks is not theoretical, in the period of 2012 - 2014 in Cyprus The ‘Troika’ of creditors agreed the final deposit levy on Cypriot accounts was to be 47.5% for shareholders, bondholders, and depositors with more than €100,000 in the two largest Cypriot banks. The "Troika" is the European Commission (EC), the European Central Bank (ECB) and the International Monetary Fund (IMF).

The levies placed on large depositors were used as equity to recapitalize the bank, following a decision reached in March 2013 as part of the bailout package for Cyprus.

As a condition for receiving a $13 billion (€10 billion) bailout package, Cyprus was forced by Troika lenders to sponsor a portion of their bailout, which they raised by levying shareholders, bondholders, and depositors with more than €100,000 in accounts. Therefore for investors wanting to hold substantial cash amounts for whatever reason, it is essential to manage the cash instruments so as to avoid deposit compromise.

Money markets
An Money Market Fund is a type of mutual fund.

MMFs issue shares to investors to finance their activities, offering a high degree of liquidity, diversification and market-based yields.

The value of their shares fluctuates in line with the price of the debt instruments in which they have invested. They have to maintain a high level of asset liquidity to be able to meet daily redemptions by their investors.

There are three types of MMF available in the EU, these are:


 * Treasury bills
 * Commercial papers
 * Certificates of deposit

These MMF's are further categorised by their risk profile into:


 * Public debt constant net asset value
 * Low volatility net asset value
 * Variable net asset value

These funds are managed by asset managers who are either controlled by banks or by independent entities. The expenses associated with these funds can vary widely from asset manager to asset manager. Some funds require entry premia and the expense ratio should be carefully checked in all cases.

The MMF's in the EU are mainly used by institutions and large corporate bodies to place shorter term cash. Individual investors can purchase money market ETF's through online platforms and through financial advisers. A selection of MMF's are shown in the following table:

Alternatives to money market funds for EU investors
For those EU investors looking for alternative assets with reduced levels of risk to hold cash, there are alternatives that may be appropriate other than bank deposit accounts and money market funds. This approach may be salient for retail investors who wish to reduce their risk exposure and at the same time to avoid any possibility of capital loss through bank haircuts. In addition the use of these assets can be part of an investors process of holding capital prior to investing. Short term bonds and ultra short term bonds may be worthwhile evaluating albeit there are risks attached to holding these assets which could lead to loss of capital.

Short term bonds
Investors looking for capital preservation try to focus their portfolio allocations on minimal-risk investment options, including cash, money markets, certificates of deposit (CDs) and bonds. Short-term bonds fall on the safer end of the debt risk spectrum due to their short duration and near-cash status. A shorter duration or maturity date leads to less credit risk and less interest rate risk. Some short term bond funds that are available to retail investors are listed in the table below:

Ultra short term bonds
Ultra-short term bond funds are bond funds that invest only in fixed-income instruments with very short-term maturities. An ultra-short bond fund will ideally invest in instruments with maturities up to around one year. This investing strategy tends to offer higher yields than money market instruments, with fewer price fluctuations than a typical short-term fund.

Ultra-short term bond funds give investors more significant protection against interest rate risk than longer-term bond investments. Ultra short term bonds are normally more risky than money market instruments, this is in part due to the fact that money market funds generally are required to invest in specific assets including government debt, corporate debt, while ultra short term bond managers have a wider remit and are not subject to the same regulations as money market funds.