Wells Fargo on Maintaining Income
Wells Fargo Corporate & Investment Banking published a "Fixed Income Strategy for November 2023" entitled, "Front-end investor considerations: does another 25 basis points matter?" It states, "The November FOMC meeting resulted in the second consecutive rate 'skip' by the Committee last week and the third 'skip' this year. Year-to-date, the FOMC has lifted its policy rate by just 100 basis points, which pales in comparison to last year when the Fed had increased its policy rate 375 basis points by this time in the year and 425 basis points over the entire calendar year. This recent steep climb in rates weighs on the psyche of corporate cash investors and seems to be driving satisfaction to sit in cash-like products while the Fed remains in a 'skip' or 'pause' mode." Author Vanessa McMichael explains, "Cash and rates are high. The Federal Reserve's aggressive tightening has propelled rates on the front-end of the curve to historically high levels at a time when many organizations simultaneously hold an unusually high amount of excess cash. This combination of high rates and excess cash has made interest income a reality once again after years in a zero-rate environment. Moreover, a 5.0% yield has become somewhat of an expectation for investors. It's a level markets haven't seen across vanilla asset classes (like Treasuries or government money market funds) since the 2004-2006 tightening cycle. And for corporate investors, this informal threshold is beneficial as most investment policies allow for allocations only to front-end fixed income markets, which is the place where 5.0% investment rates reside.... Given the expectation for rates, one of the biggest risks for corporations is the erosion of interest income. 5.0% yields have made it easy to generate income in the near-term, but maintaining interest income in a falling rate environment will require strategies such as those implemented by 2a-7 money market funds. MMFs are important cash management vehicles (investments) for corporate organizations, but they are also sophisticated investors from which we can take cues.... MMF WAMs fell to historically low levels in 2022 because of aggressive fed funds hikes; however, since the Fed has slowed the magnitude and cadence of rate hikes, WAMs have lengthened. This year alone, government and prime fund WAMs have extended by nearly two weeks.... Funds do this to grab higher yields and lock in income before the rate environment changes, which is exactly what we are encouraging corporations sitting on excess cash to consider. There is also the argument of relative value right now driving MMFs to securities with some sort of 'term' (albeit short in nature) versus overnight options." The piece concludes, "We speak with corporate clients that are camped out in money market funds that ask our opinion on the 'right' time to allocate cash to individual investments.... If a company's goal is to keep interest income alive, it should consider carving out some excess cash to invest before the Fed shifts its policy."
