We’ve extensively discussed Money Market Funds (MMFs), focusing primarily on those operating in the Kenyan Shilling (KES). If you’re just joining us, check out our deep dive into MMFs for a comprehensive overview. In that discussion, we highlighted funds that invest in Kenyan shilling-denominated securities. These include short-term government and corporate bonds, Treasury bills, and other low-risk assets within Kenya.
However, it’s important to note that the Kenyan market also offers USD Money Market Funds. These USD-denominated MMFs cater to investors looking to diversify their portfolios or hedge against currency fluctuations. Unlike KES-based funds, USD MMFs primarily invest in short-term securities denominated in U.S. dollars. These investments include bank call deposits, fixed deposits, eurobonds and corporate bonds issued by reputable companies.
Who should invest in USD money market funds?
USD Money Market Funds (MMFs) are a specialized investment vehicle that can be particularly beneficial for certain types of investors. These funds are ideal for individuals and businesses that earn or trade in U.S. dollars, and here’s why.
1. USD Earners and Traders
If you earn income in U.S. dollars—whether through employment, freelancing, or business operations—USD MMFs offer a way to manage and grow your capital. They help you avoid the added risk of currency conversion. Keeping your earnings in USD and investing them in a USD MMF helps you avoid the volatility of converting dollars into KES and back again. This is especially important for those whose income is directly linked to the U.S. dollar. It allows you to preserve the value of your earnings without exposure to currency fluctuations
2. Capital Preservation and Short-Term Investing
USD MMFs are designed for short-term investing and capital preservation. This makes them suitable for investors who want to maintain liquidity while earning a return on their U.S. dollar holdings. If you were to convert your KES to USD for short-term investment in a USD MMF, and then convert back to KES after a brief period, any gains you might have made could easily be offset by losses in foreign exchange (FX) rates. Frequent and unpredictable currency fluctuations can erode the returns from the MMF, potentially leaving you with little or no profit.
3. Mitigating FX Risk
Investors who anticipate a decline in the value of the Kenyan Shilling relative to the U.S. dollar might find USD MMFs particularly attractive. By holding assets in U.S. dollars, you can hedge against the risk of depreciation in the local currency. This strategy is particularly relevant in times of economic uncertainty or when inflationary pressures are high. For instance, if you expect the KES to weaken, converting your capital to USD and investing in a USD MMF can protect your purchasing power.
4. Diversification
For investors looking to diversify their portfolios,, without the need for complex or high-risk investments. This diversification can be a crucial strategy for those who want to spread their risk across different currencies and economies. Investing in USD-denominated assets gives you the stability of the U.S. dollar while also broadening your investment horizon beyond the Kenyan economy.
5. Businesses with International Operations
Companies that operate internationally or have significant expenses in U.S. dollars can also benefit from USD MMFs. These funds allow businesses to manage their short-term capital in a way that aligns with their operational currency needs. For example, a business that imports goods priced in USD can use a USD MMF to park funds and earn interest until the funds are needed for payments. This approach prevents the business from having to convert currencies multiple times, which could result in losses due to unfavourable exchange rates.
6. Long-Term Strategy with Short-Term Flexibility
Even for those with a long-term investment horizon, USD MMFs can serve as a strategic component of a broader portfolio. They provide a safe place to hold funds that might be needed on short notice, while still earning a modest return. This flexibility is crucial for investors who want to maintain the option of quick liquidity without compromising on currency stability.
Understanding the Returns of USD Money Market Funds
The returns on USD Money Market Funds (MMFs) typically range between 4-6%. At first glance, this might seem lower compared to the returns of 10-13% offered by KES-denominated MMFs. However, it’s important to understand that these returns are not directly comparable due to the different underlying assets and the currencies in which they are invested.
Comparing Apples to Apples: Understanding the Currency Context
USD and KES MMFs fundamentally differ in their investment strategies and risk profiles. While KES MMFs invest in Kenyan shilling-denominated securities, such as local Treasury bills and bonds, USD MMFs invest in U.S. dollar-denominated assets like corporate bonds, and bank deposits. Because these funds are tied to different economic conditions and market dynamics, comparing their returns without considering the currency context is misleading.
The correct way to evaluate USD MMF returns is by comparing them to other USD-based assets, rather than directly against KES MMF returns. When you consider currency risk, the picture becomes clearer.
Factoring in Currency Risk: A Real-World Example
To illustrate this, consider the Kenyan Shilling’s depreciation of 27% against the U.S. dollar last year(2023). If you had invested in a USD MMF, your returns wouldn’t just be the 4-6% generated by the fund. You would also benefit from the 27% increase in value due to the stronger USD. In this scenario, your effective return would be significantly higher than if you had invested in a KES MMF, even though the nominal returns of the KES MMF appeared higher initially.
This example underscores the importance of factoring in currency risk when evaluating the returns of USD MMFs. The strength of the U.S. dollar against the Kenyan Shilling can significantly enhance your returns, making USD MMFs a potentially more lucrative option for those concerned about currency fluctuations.
Better ways to hedge against currency risk
While USD MMFs can be a good hedge against currency risk, they’re not suitable for everyone. If you earn in KES, USD MMFs aren’t ideal for short-term investing. Converting KES to USD and then back can wipe out your returns due to FX losses.
For most people, the best way to hedge against currency risk is by choosing long-term investments, such as:
- Offshore stocks and ETFs
- Eurobonds
- Assets not pegged to any currency, like Bitcoin or gold.
That’s it on USD money market funds.If they fit your financial profile and you want to get started, KUZA ASSET MANAGEMENT offers a USD Money Market Fund. You can easily register online via this link.