The mainstream press has again taken note of events in the money market space, this time writing about fears over exits in the Prime MMF sector. The Wall Street Journal writes, "Shrinking Money-Market Funds Threaten Global Dollar Supply and Bloomberg writes, "Money-Market Fund Woe Becomes a Headache for Borrowers." The Journal's piece explains, "After the money-market panic in March, assets in the prime funds, which invest in short-term corporate debt, rocketed back up in April and May. They are now sliding once again, posing a threat to non-U.S. banks that rely on them. According to data from the Investment Company Institute, the assets of prime money-market funds ran to $741.62 billion on Wednesday, down $24 billion from its rebound level in late June and down sharply from its 2020 peak of about $810 billion in mid-February."
It continues, "Without the stable dollar deposit bases of American lenders, yield-hungry foreign banks have relied on these funds as a source of dollar borrowing in recent years. In times of stress, U.S. banks can count on deposits, but prime fund investors are far more flighty. The plunge in assets this year contributed to decisions by Fidelity and Vanguard to wind down major money-market funds."
The Journal piece tells us, "Under the hood, the picture is actually even more acute. The proportion of prime-fund assets made up of commercial paper and certificates of deposit has declined, while the share of government and agency bonds surged to 25.5% by the end of July from 7.3% at the start of 2020. The ultimate result depends on the Federal Reserve. If the U.S. central bank remains as accommodative as it has been so far, foreign banks likely have little to worry about. Currency swaps between central banks did the trick in calming strained funding markets in March."
Finally, they write, "But the situation may change if financial distress is concentrated among international lenders. Despite its largess this year, the Fed has no specific mandate to provide support to overseas banks. In that context, the thinning demand for a major funding source is worth keeping an eye on."
The Bloomberg article" comments, "For decades, money-market mutual funds offered better returns than bank deposits, were just as accessible and seemed just as safe -- until they needed a federal bailout at the height of the 2008 financial crisis. That led to reforms meant to make the industry safer, while still allowing users to pursue higher yields, and investors started to drift back. But now the Federal Reserve has driven rates so low that the extra risk hardly seems worth it. That's creating problems not just for fund managers but for corporations that have long relied on money markets to fund their day-to-day operations."
It states, "As social distancing and quarantine measures to curb the pandemic shut down economies and wracked global markets in March, investors again herded out of prime funds, and into the relative safety of 'govvies.' Over six weeks, prime funds shed around $150 billion of assets. Perversely, the 2016 overhaul may have exacerbated the flight, as investors were motivated to move early to avoid possible penalties, or getting stuck if a fund's assets dropped too far. Some managers with parent banks were able get liquidity injections from them -- Goldman Sachs bought a total of $1.84 billion from two of its asset management arm's money-market funds in March."
Bloomberg writes, "What did that do to markets? Made a bad situation worse. While prime redemptions were largely absorbed by government funds, they had big ripple effects: Commercial-paper issuance froze in March through April, which in turn contributed to a surge in Libor, a benchmark rate for lending between banks that underpins trillions of dollars of corporate and consumer loans. Once again the Fed stepped in with emergency support, rolling out its Money Market Mutual Fund Liquidity Facility to help them meet demand for redemptions. That solved one problem for funds, even while the Fed was creating another."
They continue, "Prime money-market funds exist because they offer better returns than holding cash or Treasuries. But that's hard to offer when the Fed is pushing rates down to zero, as it did in March. The Fed's assurances that the target policy rate will stay put for years to support a full economic recovery signify another stretch in the wilderness for money-market funds. Rock-bottom rates will mean that short-term funds will be able to offer little if any return. But the situation is particularly tough for prime funds, where the main appeal is the dollop of yield they offer investors prepared to take a little credit risk."
The article adds, "Vanguard Group -- the world's second-largest asset manager -- voluntarily agreed to limit expenses on the investor class of a $125 billion fund that it's converting to a government-only vehicle after more than 40 years. Northern Trust Corp. and Fidelity Investments recently axed prime funds altogether.... Barclays rates strategist Joseph Abate assumes the prime-fund industry will be 'permanently smaller, because of voluntary exits or regulation changes.' And even if the incumbents stay, regulators armed with this fresh evidence of how commercial-paper markets can evaporate in moments of stress may want to impose limits on how much of it these funds can buy."
In other news, Wells Fargo Asset Management's latest "Money market overview," tells us, "The outflows the industry experienced in June were confirmed as a trend during the ensuing two months, though the pace declined sharply. After shedding $111 billion in assets in June, money market fund assets declined another $102 billion over the two-month period that ended August 31. Government and Treasury funds lost another $86 billion on the heels of June’s loss of $131 billion, bringing total assets under management to $3.7 trillion after peaking on May 13 at $3.915 trillion. Prime funds also experienced an erosion in their asset base, losing $8.6 billion after gathering $22.9 billion the previous month—this in spite of reaching a new high in assets under management on July 10 of $1.135 trillion. Even municipal funds were not immune, shrinking a further $7.4 billion and finishing August with assets of $128 billion."
The update continues, "Given the sources of asset flows into the funds, it's not surprising to see this decline in assets occurring. As money from federal coronavirus-related financial assistance programs gets spent down and corporations and small businesses get back to work, it's likely that the cash reserves to fund a resumption in activity will be depleted and money market balances will continue to trend down over the very near future. Additionally, corporate tax day is right around the corner, likely leading to a spike in redemptions around September 15. Normal seasonal flows for funds typically show an increase going into year-end. With this year being rather atypical, to say the least, it's unclear whether we will see this type of behavior in funds as the year winds down."
On the U.S. government sector, Wells adds, "The biggest news over the summer is what didn't happen, as the widely expected next stimulus bill not only didn't get over the finish line but also didn't really even show up to the track. The kinds of things that usually inject urgency into the process were largely absent, as economic data was generally better than feared and equities were buoyant. A stimulus bill would have meant more government spending, quickly, and would've required more Treasury bills (T-bills) to fund it. In its absence, T-bill supply has leveled off and market yields have declined and flattened.... If another stimulus bill does eventually pass, the additional supply, though significant, will likely be but a fraction of what the market digested in the spring, with perhaps a correspondingly smaller increase in yields."
