Many money market mutual funds are waiving expenses to keep their share prices from falling below $1 — “breaking the buck,” in money fund parlance.
But most money fund subaccounts in variable annuities have felt no such compunction, meaning that most who opted for the safest option in VA lineup have lost money for half a decade.
The average money fund in a variable annuity subaccount tracked by Morningstar has lost an average 0.46% a year, turning a $10,000 investment into $9,772. The $1 billion Voya Government Money Market Portfolio I lost 1.4% a year, according to Morningstar, and the $3.8 billion Nationwide Government Money Market Prime fell an average 0.95%.
In contrast, the average taxable money market fund has gained 0.02% a year.
Of the 43 money fund subaccounts with five-year records tracked by Morningstar, all but 12 had negative returns the past five years. The top performer, AEGON Cash Management, gained an average 0.15% a year.
It's not that variable annuity subaccounts are just rotten fund managers. But with yields so low, only the lowest-cost money fund accounts can produce a positive yield without waiving expenses. While the expense ratios of many money fund subaccounts are reasonable — an average of 0.18% — other fees associated with the variable annuity may be taken from the funds, reducing their returns.
Money funds have become loss leaders since the Federal Reserve pushed its key fed funds rate to zero in September 2008 in the wake of the collapse of Lehman Brothers and the Reserve Primary fund . Even with the most recent Fed rate hike, 90.9% of all taxable money funds are waiving some or part of their expenses, according to iMoneyNet, which tracks the funds. And 88.3% of tax-free money funds are waiving some or part of their expenses. The average taxable money fund charged 0.33% in expenses in the second quarter of 2016, iMoneyNet said.
Some money funds in retirement accounts, such as corporate 401(k) plans, are money losers for investors as well, thanks to plan fees.
The return figures don't include the effect of inflation, which erodes the value of savings over time. Inflation, as measured by the consumer price index for all urban consumers, has run at a 1.2% annual rate the past five years, according to the Bureau of Labor Statistics. (This is the version of the CPI that includes the cost of food and gasoline). In effect, then, the average money fund subaccount has lost nearly 1.7% a year when inflation is taken into account.
Morningstar estimates that $2.6 billion flowed into money fund subaccounts in 2015, bringing the total to $29 billion. That's about 1.6% of the $1.8 trillion in variable annuity assets for that year.
Nevertheless, the returns from variable annuities illustrate some of the risks from stashing too much money in cash. “This is an example of how folks may think that negative interest rates are just something that happens in Europe when in fact, while they are sipping their latte stateside, they also are experiencing negative rates in their VA money market fund,” said Mark Bass, a financial planner in Lubbock, Texas.
“There are only three reasons that I know to leave VA money in a money market account,” Mr. Bass said. “One is if the VA owner knows of a pending withdrawal in the next 6-12 months, and they don't want the risk of fluctuating values (other than the negative rate of the money fund). Secondly, if the money is in some type of managed account or asset allocation model, and it has a portion of the funds allocated to the money market account. And the third reason is just not paying attention.”