Daily Links Archives: December, 2012

Saturday's Wall Street Journal writes "Bond Funds: The Downside". It says, "Short-term bond funds are booming, but they aren't as safe as you might think. The actively managed mutual funds are generally considered less risky than other types of bond funds. That is because the short-term funds invest largely in high-quality corporate and government securities that typically mature in three to five years. Since the bonds have a shorter duration, the funds are less exposed to interest-rate risk and generally less volatile. But during the past three years, short-term bond funds have been loading up on riskier securities.... Short-term bond funds have seen net inflows -- the total amount of investor money flowing in and out of the funds -- of $36.5 billion this year through Nov. 30, beating out intermediate-term bond funds as the most popular category of mutual funds."

Reuters writes "Major Borrowers to Reduce Bank Deposits: Fed Survey". It says, "Wall Street dealers expect hedge funds, insurance companies and other borrowers to pull some cash from commercial banks when a financial crisis-era deposit insurance program expires at the end of the year, the Federal Reserve said on Thursday. The U.S. central bank's quarterly survey of senior credit officers found that most expect their clients to get rid of at least some commercial bank deposits and instead park their cash in securities such as repurchase agreements, money market funds or Treasury bills.... The Transaction Account Guarantee program began in the midst of the financial crisis to reassure depositors and induce them to keep their cash in banks. It removed a $250,000 cap on the size of non-interest bearing checking accounts that the Federal Deposit Insurance Corp. would insure."

Yesterday's Wall Street Journal wrote "Small Banks to Depositors: Trust Us", which discusses the possible pending expiration of the TAG unlimited FDIC insurance program. The article says, "Small banks around the country are spending the last days of 2012 trying to assure customers they can be trusted to hold their deposits, as the government's unlimited insurance on certain accounts expires this year. Many of the affected accounts are essentially noninterest-bearing checking accounts that hold more than $250,000. The Federal Deposit Insurance Corp. granted unlimited insurance to these accounts -- often held by businesses, municipalities and other entities that require quick access to large amounts of money for payrolls and other needs -- at the height of the financial crisis to help instill confidence in the nation's smaller banks. The goal was to prevent account holders from moving money from smaller institutions to larger ones viewed by customers as less likely to fail. After the program, known as the Transaction Account Guarantee, expires Dec. 31, noninterest-bearing accounts will receive the same $250,000 insurance coverage that the FDIC provides for other depositors. Roughly $1.5 trillion of deposits are covered by the expiring guarantee, according to the FDIC. The change has executives at small banks reaching out to affected customers to encourage them to stay put."

For those planning on attending our Money Fund University in January, time is running out for our discounted hotel rates (the attendee rate ends Dec. 31). As we've mentioned, Crane Data will host its third annual Crane's Money Fund University at The Roosevelt Hotel in New York City, Jan. 24-25, 2013. Money Fund University was designed to offer attendees an affordable and comprehensive two day, "basic training" course on money market mutual funds, educating attendees on the history of money funds, interest rates, Rule 2a-7, ratings, rankings, money market instruments such as commercial paper and repo, and portfolio construction and credit analysis. With our first New York City show, we will continue our expanded focus on money fund regulations and Rule 2a-7, with two sessions on the topic (past and potential future), and we've added new sessions on "offshore" money funds and technology tools. Crane Data is also preparing to publish the preliminary agenda and is accepting registrations for its big show, Money Fund Symposium, which will be held June 19-21, 2013, at the Hyatt Regency in Baltimore, Md.. (See www.moneyfundsymposium.com for details.) Let us know if you'd like more information on this event, and watch for more information in coming days.

Former Fidelity executive Robert Pozen writes on The Brookings Institution's website, "Make 2013 the Year to Resolve the Money Fund Debate." He explains, "The road to money market fund reform has been politically arduous. In August, Mary Schapiro, then the Chairwoman of the SEC, was forced to call off a vote on money market fund reform. Three of the five commissioners had indicated that they were not prepared to support the rules under consideration. Fortunately, two of the three dissenters have recently expressed receptivity to some reforms in certain circumstances. To break through the impasse within the SEC, the commissioners should consider a compromise first proposed by Walt Bettinger, President and CEO of investment services firm Charles Schwab. That proposal would affect money market funds held by large institutions -- such as pension funds and corporate treasuries -- while leaving retail investors largely unaffected.... I advocate that institutional money market funds should be required to adopt a fluctuating NAV. On the other hand, money market funds held solely by retail investors should be allowed to continue using a stable NAV at $1.00 per share."

ICI's latest "Money Market Fund Assets" showed MMMFs first asset decline in 5 weeks. The release says, "Total money market mutual fund assets decreased by $8.75 billion to $2.637 trillion for the week ended Wednesday, December 19, the Investment Company Institute reported today. Taxable government funds increased by $6.62 billion, taxable non-government funds decreased by $18.75 billion, and tax-exempt funds increased by $3.38 billion. Assets of retail money market funds increased by $9.46 billion to $919.89 billion. Taxable government money market fund assets in the retail category increased by $2.78 billion to $196.34 billion, taxable non-government money market fund assets increased by $3.45 billion to $525.56 billion, and tax-exempt fund assets increased by $3.23 billion to $197.99 billion.... Assets of institutional money market funds decreased by $18.21 billion to $1.717 trillion. Among institutional funds, taxable government money market fund assets increased by $3.84 billion to $688.73 billion, taxable non-government money market fund assets decreased by $22.20 billion to $945.48 billion, and tax-exempt fund assets increased by $150 million to $82.61 billion."

The Wall Street Journal writes "Money Funds Brace for Flood". The article says, "BlackRock Inc. and Federated Investors Inc. might bolt the door to shield their funds from a torrent of money that is expected to flood out of U.S. banks when a federal guarantee lapses on roughly $1.7 trillion in bank deposits. The big money managers worry that cash pouring into the $2.65 trillion money-fund industry will further depress record low yields, hurting investors and making it costlier for managers to operate. If the influx is large enough, BlackRock and Federated have told investors, some money-market funds could be closed to new entrants, said people familiar with the conversations. The private communication is an early sign of the turmoil that could result from the end of a measure installed during the 2008 financial crisis to encourage small businesses to stay with their local banks. The unlimited Federal Deposit Insurance Corp. guarantee on no-interest bank accounts is expected to end on Dec. 31 and revert to $250,000 per depositor for each account category. An effort to extend the program died in the U.S. Senate last week." The Journal quotes Pete Crane, "It could be a tsunami."

Fitch writes "MMFs Extend Global Reach, Grow Nontraditional Holdings". The brief says, "U.S. and European prime money market funds (MMFs) have continued to diversify their investments in 2012, slowly ramping up exposure to some highly rated emerging market banks. Fitch expects this trend to continue in 2013, as the supply of high-quality short-term assets in core markets remains constrained. Although the share of MMF assets allocated to nontraditional issuers remains small (under 1% of total MMF prime assets), the trend toward greater global diversification is significant in signalling fund managers' desire to spread risk away from the highly concentrated group of traditional issuers in North America, Europe, Japan, and Australia. Still, growth in nontraditional geographies will likely occur gradually, with funds taking relatively small positions, primarily in Latin American and Asian banks. We believe many fund managers likely view emerging markets in small doses as a reasonable investment alternative, at a time when historically low yields across all traditional short-term asset classes are depressing returns and forcing consideration of noncore investments. This highlights one of the key challenges facing MMFs moving into 2013 -- namely, how to achieve a workable balance between generating reasonable yield while managing headline risk affecting euro zone issuers and the risk from untested exposures in nontraditional markets. We estimate that Fitch-rated U.S. MMFs had invested approximately $6 billion in advanced emerging economy banks (primarily in Chile, Korea, and Singapore) as of October 31. As an example, short-term investments by Fitch-rated U.S. MMFs in Chile's Banco del Estado de Chile (rated 'A+'/F1) grew from $75 million in mid-2011 to over $300 million at the end of October 2012. Advanced emerging economy banks, often seeking to diversify dollar liquidity sources, also have benefited from better credit quality trends than their developed market counterparts. Emerging economy banks could see steady improvement in their dollar funding profiles in future years if MMF allocations to noncore markets continue to expand."

Sunday's Financial Times features an article entitled, "Not all money market funds are equal". Written by Robert Pozen and Theresa Hamacher, it says, "There is a sensible compromise to the debate over money market fund reform that regulators should seriously consider: requiring a fluctuating share price for some money market funds owned by institutional investors, but not for those owned by retail investors. Currently, all money market funds may use a fixed share price -– known as the "net asset value", or NAV -– at one dollar per share, subject to strict conditions. Regulators have argued that a fixed NAV creates systemic risk in the financial system and misleads investors into thinking their investment is guaranteed. They believe that money market funds should instead calculate their NAV daily based on the market value of their investments, as stock and bond mutual funds do -– meaning that the NAV may fluctuate from day to day. However, the fund industry argues that a fluctuating NAV would drastically undermine the utility of money market funds. Most investors use money market funds as an alternative to bank deposits, so most investors require the convenience and liquidity of a fixed-dollar account. Additionally, the industry points out that only two money market funds – both institutional – have ever caused any investor losses by "breaking the buck". Walt Bettinger, president and CEO of investment services firm Charles Schwab, recently advocated a smart proposal that would treat different types of funds differently."

Fitch published a "2013 Outlook: Global Money Market Funds" last week. It said, "Fitch expects the low interest rate environment to persist through 2013 and well in to 2014 (see Global Economic Outlook, December 2012). Thus MMF gross yields will remain low and may turn negative, especially for euro MMFs. Negative MMF yields resulting from the short-term rate environment would not be a negative rating factor for Fitch-rated MMFs (see Fitch: Potentially Negative Euro Yields Won't Impact MMF Ratings, September 2012). A number European MMFs took proactive steps in 2012 enabling them to pass on potential negative yields to investors. The essence of the negative yield distribution mechanism is based on keeping the net asset value per share stable at the initial subscription price per share. Instead, an appropriate number of shares on the investor's accounts is to be redeemed to reflect pro-rata the reduction of the fund's value incurred through investments in assets producing the negative yield.... MMFs domiciled in the US and core European countries claim 82% of the total USD4.6 trillion in assets under management of MMF globally.... The remaining 18% of the global MMF assets are managed in Asia-Pacific, Other Europe, Latin America and Africa. Figure 13 illustrates the declining trend in assets under management of US and European MMFs, while the Asia-Pacific region has shown growth of +30% over the same period, driven by Australia (+53%) and China (+140%), which together now represent USD380bn in assets."

Bloomberg writes "FDIC Guarantee Program Set to Expire After Senate Block". The article says, "A Federal Deposit Insurance Corp. program that expanded safeguards for business bank accounts will probably expire at the end of this year after the U.S. Senate failed to advance a proposal for an extension. A 50-42 vote on a procedural motion fell 10 short of the 60 needed to move forward on a two-year extension of the Transaction Account Guarantee Program, effectively killing it. The TAG program, introduced in the wake of the 2008 credit crisis, guarantees $1.5 trillion in non-interest bearing accounts above the FDIC's general limit of $250,000. An initial extension is set to end Dec. 31." In other news, the ICI's latest weekly "Money Market Mutual Fund Assets" shows money fund assets increasing for the fifth straight week. It says, "Total money market mutual fund assets increased by $1.53 billion to $2.645 trillion for the week ended Wednesday, December 12, the Investment Company Institute reported today. Taxable government funds decreased by $7.26 billion, taxable non-government funds increased by $8.38 billion, and tax-exempt funds increased by $410 million."

A press release says, "The Depository Trust & Clearing Corporation (DTCC) today announced that it is proposing changes to its settlement processing for money market instruments (MMIs) to boost efficiencies, improve intraday settlement finality and further reduce credit and liquidity risk in the MMI market. In a white paper to the industry – "Reducing Risk and Enhancing Intraday Finality in the Settlement of Money Market Instruments" – DTCC, through its depository, The Depository Trust Company (DTC), plans to enhance the settlement model to eliminate the risks that come with intraday reversals of transactions in DTC's MMI system. These enhancements are subject to regulatory approval." Susan Cosgrove, DTCC Managing Director and General Manager, Settlement and Asset Services, comments, "The MMI process at DTC has facilitated the growth of MMIs over the years by offering enormous settlement transaction efficiencies. As the next phase of development, DTC will continue to promote risk mitigation and improve intraday finality, but will also introduce a new optimization engine to retain settlement efficiency for DTC and its members."

The Washington Post writes "Money market funds come to their own rescue, SEC report shows". It says, "Now, the Securities and Exchange Commission provides another reminder that these funds are not as stable as the average mom-and-pop investor may think. The agency reported this month that nearly 160 money market funds have sought the SEC's permission to shore up their funds using cash from their parent companies since 1989 -- and that's not counting the requests made during the financial crisis years. Nearly a dozen events triggered the written requests, including headline-making events such as the bankruptcy of California's Orange County in 1994. But the requests were not immediately disclosed. The SEC did not make such letters public before the 2008 financial crisis. Now, they’re made public on a delayed basis to avoid instigating a run on a fund." The Post writes, "So investors may have been unaware that their money market fund had come under stress," according to the SEC report, which did not name the funds involved." It quotes Bob Plaze, "A 30-year history of fund managers always coming through is impressive. It implicity has suggested that sponsor support will always be available.... The problem is, nobody knows if the fund management can come up with the money in times of crisis."

A press release entitled, "Jennifer McHugh Named Senior Advisor in SEC's Division of Investment Management" says, "The Securities and Exchange Commission today announced that Jennifer B. McHugh has been named Senior Advisor to the Director in its Division of Investment Management. Ms. McHugh will advise the Director of Investment Management on issues related to mutual funds and investment advisers. She starts her new position on December 17." Norm Champ, Director of the SEC's Division of Investment Management, comments, "We are excited to have Jennifer join the Division of Investment Management as she brings extensive experience on investment management issues. Jennifer has a wealth of experience from her last four years in the Chairman's Office that will be extremely helpful to the Division." McHugh says, "`I look forward to working with Norm Champ and the dedicated and talented staff of the Division of Investment Management. The Division's work developing regulatory policy for mutual funds and investment advisers is particularly meaningful and rewarding because it has a direct impact on everyday investors." The release adds, "Ms. McHugh served as Acting Director of the Division of Investment Management from the end of 2010 to early 2011, and has been a Senior Advisor to SEC Chairman Mary L. Schapiro since 2009. She is a 13-year SEC veteran who joined the agency in 1999 as an attorney in the Division of Investment Management, where she focused on mutual fund rulemaking."

Dechert writes "U.S. Financial Stability Oversight Council Proposes Recommendations for Money Market Fund Reform". The article says, "On November 13, 2012, the U.S. Financial Stability Oversight Council (FSOC) voted to issue proposed recommendations (Proposed Recommendations) to the U.S. Securities and Exchange Commission (SEC) regarding additional reforms to Rule 2a-7 and other rules under the Investment Company Act of 1940 (Act) that govern money market funds (money funds). The vote to issue the Proposed Recommendations is the next step in a long and, at times, contentious debate regarding whether and to what extent money funds exacerbated the 2008 financial crisis. Proponents of the Proposed Recommendations (or other similar recommendations) contend that, in addition to the reforms adopted by the SEC in 2010, money funds should be subject to reforms that address a money fund's perceived susceptibility to "runs" or the "first-mover advantage." Although SEC Chairman Mary Schapiro was not able to reach a consensus with other SEC Commissioners as to a package of proposed reforms put together by the SEC Staff, the Proposed Recommendations will no doubt stimulate additional debate and could lead, ultimately, to a compromise. This update provides a brief background on the events leading up to the Proposed Recommendations. It also describes the Proposed Recommendations and provides commentary on the substance of these recommendations. Comments on the Proposed Recommendations are due by January 18, 2013."

The Wall Street Journal writes "Key SEC Holdout in Money-Fund Overhaul Reverses Stance". The story says, "The $2.6 trillion U.S. money-market fund industry is headed toward a drastically new look next year, as a regulator who blocked an overhaul effort this past summer has dropped his opposition. Securities and Exchange Commission member Luis Aguilar, a former mutual-fund executive, said in an interview that he would support a proposal that requires money-market funds to "float" their share prices like other mutual funds, a system that would end the $1 peg for their net asset value that money-fund shares have had for decades." Aguilar says, "I'm not fundamentally opposed to including a properly structured floating net asset value as part of a proposal.... "I expect that sooner rather than later in 2013 we should be in a position to put forth a more informed proposal for comment." The Journal writes, "He added that he hadn't seen the new plan SEC staffers are drafting to overhaul the industry's regulation.... The SEC requires majority votes to approve and enact new rules. The commission is set to shrink to four from five members with the planned resignation of Ms. Schapiro this coming week. Her successor as chairman, Elisse Walter, previously backed Ms. Schapiro's earlier plan, which would have proposed floating prices as one alternative for bolstering money funds."

Wells Fargo Advantage Money Market Funds' latest Portfolio Manager Commentary says, "On December 16, 2008, the Federal Open Market Committee (FOMC) lowered its target for the federal funds rate from 1.00% to a range between 0.00% and 0.25%. In the statement released after that meeting, the FOMC said, "the Committee anticipates that weak economic conditions are likely to warrant exceptionally low levels of the federal funds rate for some time." Now, four years later, having seen that low rates have failed to stimulate appreciable economic growth, many believe that the low rate environment that has plagued savers for nearly half a decade is really aimed at providing interest-rate relief to debtors and staving off a deflationary debt spiral that would threaten those burdened with extraordinary levels of debt, including the U.S. government. This would argue against a rise in the federal funds rate in response to improving economic conditions.... Indeed, over the coming months, we see a number of factors that could combine to push short-term rates even lower.... Demand for short-term investments may see some spike with the expiration of the unlimited Federal Deposit Insurance Corporation (FDIC) insurance on noninterestbearing transaction accounts."

Stradley Ronon Counsel Joan Ohlbaum Swirsky penned a recent "Fund Alert" entitled, "FSOC Proposes Fundamental Reform Recommendations for Money Market Funds." It says, "At an open meeting (Open Meeting) on Nov. 13, the Financial Stability Oversight Council (FSOC) voted unanimously to release for public comment proposed recommendations (Proposed Recommendations) to the SEC for the fundamental reform of money market funds. In significant respects, the Proposed Recommendations mirror reform ideas that have circulated since the 2008 financial crisis and that have suffered attack in many quarters of the fund industry. FSOC proposes that money market funds be required to implement one of the reforms below. 1. Adopt a floating net asset value (NAV). 2. Comply with new requirements to both: maintain a capital buffer of up to 1 percent of fund assets; and require that 3 percent of each shareholder's highest account value in excess of $100,000 during the previous 30 days (the "minimum balance at risk" or MBR) be made available for redemption on a delayed basis.... [or] 3. Maintain a capital buffer of up to 3 percent of fund assets and possibly comply with other measures that might allow the fund to reduce the required size of the buffer. Other measures might include more stringent requirements as to portfolio diversification or portfolio liquidity, "know your customer" measures, and/or disclosure enhancements. Detail on each of these proposals is available at the link at the bottom of this article. The following portion of the Fund Alert seeks to provide regulatory context for the Proposed Recommendations and show how they fit in the swirl of regulatory activity surrounding money market funds. The Proposed Recommendations state that the three approaches may be alternatives, and a fund sponsor might manage money market funds that follow different approaches. Comments are due on the Proposed Recommendations by Jan. 18, 2013."

The FDIC's latest "Quarterly Banking Profile" says, "Net interest income was $746 million (0.7 percent) higher than a year ago, even though the average net interest margin (NIM) fell from 3.56 percent to 3.43 percent. The increase in net interest income was made possible by a 4.6 percent increase in interest-earning assets. Two out of every three insured institutions (67.8 percent) reported year-over-year NIM declines, as average asset yields declined faster than average funding costs.... Most of the increase in assets was funded by deposit growth, as total deposits increased by $181.7 billion (1.8 percent). Deposits in foreign offices rose by $35.2 billion (2.5 percent), while domestic office deposits increased by $146.5 billion (1.6 percent). More than three-quarters of the increase in domestic deposits ($110.9 billion) consisted of balances in noninterest-bearing transaction deposits that exceeded the basic FDIC coverage limit of $250,000 but have temporary full FDIC insurance coverage until the end of 2012. Nondeposit liabilities declined by $20.2 billion (1 percent). At the end of September, deposits funded 73.9 percent of banking industry assets, the highest proportion since the end of 1993.... Insured institutions held $1.7 trillion in noninterest-bearing transaction accounts larger than $250,000, of which $1.5 trillion exceeded the basic coverage limit of $250,000 per account but is temporarily fully insured through December 31, 2012. These temporarily insured balances funded 4.7 percent of assets at banks with less than $10 billion in total assets and 11.9 percent of assets at banks with more than $10 billion in assets. Balances exceeding $250,000 in noninterest-bearing transaction accounts increased by 8.0 percent ($110.9 billion) during the third quarter, following growth of 5.0 percent ($65.5 billion) during the second quarter."

Federated's latest "Month in Cash" is entitled, "Moving out on the curve". It says, "We're taking advantage of year-end opportunities in the marketplace, and we're seeing better pricing a bit further out the yield curve as we get past year-end, as well. As a result, we've decided to lengthen the weighted average maturity of our government money market funds. For quite some time, we had been targeting from 40 to 50 days, but we've lengthened that target to 45 to 55 days. The yield curve is shaped right now in a way that allows us to do that and retain a relatively good yield.... We're also watching concerns about the potential expiration of the FDIC's unlimited insurance on non-interest bearing checking accounts at the end of the year. A bill has been proposed to extend the coverage for two years, but there hasn't been a lot of traction, or even details, on that proposal. There might be some political backing for extending the coverage only for smaller community banks below a certain size level, where there might be some more concerns. Were the extension to fail, though, we could see large inflows into money funds at the end of December and beginning of January. And if, in fact, unlimited coverage expires, and we wait until late December or early January to go further out on the yield curve, we'd be left with less in the way of opportunities."

Barron's writes "Money-Market Compromise?" It says, "Money-market reform is in the hands of another set of regulators now, including Treasury Secretary Tim Geithner and Federal Reserve Chief Ben Bernanke. But it's Charles Schwab that's publicly changing the conversation. The debate over money-market reform has been one long, ugly slog, and it's far from over. But the conversation is changing. After the SEC failed to garner enough internal support to bring its proposal to a vote, its chairman and money-fund bogeyman, Mary Schapiro, essentially tossed the hot potato to the Financial Stability Oversight Council.... [FSOC's] proposal, announced Nov. 13, looks suspiciously like the SEC's, involving a floating net asset value and capital requirements.... The fund industry's lobbying arm, the Investment Company Institute, immediately responded that the proposal "failed to advance the debate over how to make money-market funds more resilient in the face of financial crisis" and that "ICI and its members continue to oppose these reform concepts."" It quotes, "Pete Crane, publisher of the eponymous and ubiquitous Crane Data," "Money funds feel backed into a corner. For them, this is life or death." Barron's adds, "That is, until Charles Schwab--which has $155 billion in money-fund assets and had been ardent in its opposition to any money-fund reform--publicly called for compromise. CEO Walt Bettinger put forth the firm's proposal in an op-ed piece in The Wall Street Journal.... Treating prime funds differently than government-only funds is legitimate and shouldn't be hard to implement. Distinguishing between institutional and retail money is trickier, as even Schwab acknowledges. The proposal is light on details, which has emboldened some critics to note that Schwab has very little in the way of institutional money, compared with money-fund kingpins JPMorgan, Federated, Fidelity, and others."

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