Introduction
The operating principles of money market funds are the same the world over, but money market funds in Kenya differ from their peers around the world in various ways, including structure, risks, performance, and regulations.
Money market funds are a type of collective investment scheme or “mutual fund” where investors purchase shares, and fund managers invest on their behalf by selecting short-term, low-risk, and highly liquid investments.
Factors affecting the performance of mutual funds
For successful operation and growth, mutual funds require a robust and effective regulatory framework. Investors need to be protected from fraudulent fund managers since they bear the risk while relying on the expertise of fund managers in making the actual investments.
Mutual funds tend to perform better in countries with mature stock markets with a high level of integrity and liquidity.
Integrity implies insiders are barred from taking advantage of privileged information, and officers observe high standards of corporate governance. They do not engage in extensive fraud or theft. Liquidity ensures that transaction costs are low and investors do not suffer from large adverse price movements when they initiate transactions in individual securities.
Accounting and auditing rules, as well as information disclosure and transparency requirements are also of paramount importance.
Mutual funds in developed vs. developing countries
Mutual funds in the developed countries consistently outperform those in developing countries for several reasons, including regulatory environments, market maturity, better levels of education, and economic stability. They also have more transparent disclosure practices, lower fees, and more effective judicial protection.
In comparison, Maina Mihari (2014) found Kenya to be sorely lacking in transparency, disclosure, regulation, and judicial oversight. While the situation has vastly improved, with the passing of theCapital Markets (Collective Investment Schemes) Regulations, 2023 , the industry is still smaller, and younger. Regulation is also more reactive than proactive, and the capital markets are comparatively undeveloped.
Mutual Funds in the United States
The United States is the largest mutual fund market in the world, with a history dating back to 1924 when the first open-end mutual fund was created in Boston.
The United States is in a class of its own in the development of mutual funds. Following their spectacular growth in the 1990s, mutual fund assets rose from the equivalent of 26 percent of GDP in 1992 to 65% in 1998, and 140.2% ($30 trillion AUM) in 2023.
This performance can be attributed to several factors:
- The U.S. has the largest and most liquid capital markets in the world. There are a number of well-established stock exchanges (e.g. NYSE, NASDAQ) and a broad array of financial instruments to pour money into. This enables mutual funds to offer a wide range of investment options in various asset classes - e.g. stocks, bonds, money markets - providing investors with diversified portfolios in the highest-performing companies in the world.
- They have a reputation for being home to companies that are safe to invest in, and earned an “A” grade for investment distribution, taxation, fees and transparency.
- Among twenty-four countries surveyed by Moningstar, the United States had the world’s best disclosure and lowest costs., thanks to stringent regulations enforced by SEC. The media is also credited for empasizing long-term perspectives and low costs.
- There is high investor confidence due to stringent oversight enforced by the SEC.
Mutual Funds in the European Union
By popularity of fund types
In the majority of countries in continental Europe, Eastern Europe, mutual fund investors show a strong preference for fixed income funds, either long-term bonds or short-term money market instruments.
However, in Southern Europe (France, Greece, Italy, Spain and Portugal and Norway) money market funds are notably popular.
In Netherlands, Switzerland and France, mutual fund assets under management correspond to 90%+ of GDP. Several others, including Denmark, Austria, Germany and the United Kingdom boast between 50% and 80% of GDP, while the rest below 40% of GDP.
Fixed income funds have a strong presence in Eastern European countries that have reformed their social security and pension systems (e.g. Chile, Hungary and Poland), having strong implications on how pension funds allocate their resources.
Regulation
Money Market Funds (“MMFs”) in the European Union must comply with Regulation (EU) 2017/1131 of the European Parliament and of the Council of 14 June 2017 on money market funds (“MMFR”).
In addition to the specific rules for money market funds (MMFs) under the MMFR, an MMF must also meet the general requirements and regulations for the type of investment fund it is, whether it’s an Undertaking of Collective Investment in Transferrable Securities (UCITS) - i.e. a fund that invests in stocks and bonds - or an Alternative Investment Fund (AIF) - i.e. a different kind of investment fund.
Reporting
According to the Law of 16 July 2019 and related guidelines, managers of money market funds (MMFs) supervised by the CSSF must submit financial reports to the CSSF either quarterly or yearly. The EU has set a specific template for these reports, as outlined in regulations from 2018. ESMA (the European Securities and Markets Authority) has provided detailed instructions and rules for how these reports should be submitted, including using a specific format (ISO20022 message) in XML through designated channels. These reports follow a standard European format.
Money Market Funds in Middle Income Countries
MMFs in middle income countries differ from their developed-country counterparts in a number of ways.
In several developing and transition countries, bond instruments have short maturities, and thus there is practically little difference between bond and money market funds. Fund managers tend to heavily rely on bond markets for investments.
Mutual funds in such countries are also unlikely to enjoy the same economies of scale and risk diversification as mutual funds in large countries.
Operating costs and expense ratios are much higher in developing countries. For example, in 1990s Chile, they amounted to 6 percent for equity funds and 2 percent for bond funds plus entry and exit fees (Maturana and Walker 1999).
The following factors limit the popularity of money market funds in such countries:
- Lack of confidence in the integrity of local markets;
- Low risk tolerance of investors; and
- Use of overseas mutual funds by wealthier and more sophisticated investors.
Mutual Funds in South Africa
Mutual funds in South Africa have seen tremendous growth over the years, from a single mutual fund in 1965 to over 1,265 registered funds in 2019, growing from 12% of GDP in 2000 to 61.5% in 2020.
However, mutual funds in South Africa suffer from the same plagues as a lot of middle income countries. Of the twenty-four countries surveyed in by Morningstar, South Africa scored the worst among the twenty-four countries surveyed, mainly on account of its poor disclosure practices (Alpert, Rekenthaler, & Suh, 2013).
Mutual Funds in Kenya
In Kenya, mutual funds, particularly Unit Trust Funds (UTFs) in the form of money market funds, have shown significant growth over recent years.
Over the past five years, the AUM has grown at a compound annual growth rate (CAGR) of approximately 31.8%, from Kshs 63.8 billion in Q2 2019 to Kshs 254.1 billion in Q2 2024
This seems to be connected with the imposition of restrictive regulations on the payment of interest on checking accounts and other short-term bank deposits that all these countries have imposed for prolonged periods—i.e., M-PESA balances do not accrue interest.
That said, the mutual fund industry is still relatively young and undeveloped in Kenya. However, if the country is to follow the same growth trajectory, the outlook for money market funds in Kenya is generally positive.