The Investment Company Institute's Chief Economist Brian Reid published a piece Friday entitled, "Dispelling Misinformation on Money Market Funds." It says, "The ongoing attention to U.S. prime money market funds' exposure to the debt crisis in Greece has brought three questions to the fore: Are U.S. money market funds invested in the 'periphery countries' -- Greece, Italy, Spain, Portugal, and Ireland -- that are seen at risk in a debt crisis? Why are U.S. money market funds investing in European banks? What risks do those investments pose for U.S. money market funds and their investors?"
Reid explains, "The answers to those questions can be summed up in four points: U.S. prime money market funds have no direct exposure to Greek, Portuguese, or Irish government or bank debt. Their holdings of Spanish and Italian bank debt are minimal and have fallen substantially since last autumn. U.S. money market funds have plenty of sound reasons to invest in large, well-capitalized banks with extensive U.S. and global operations -- whether those banks are headquartered in the U.S. or Europe. It would take a rapid collapse of one or more large European banks to have any impact on U.S. money market funds and their investors. The market is not anticipating any such collapse. Regulators and money market funds themselves have put greater safeguards in place to strengthen these funds since the financial crisis. Those are the facts. Unfortunately, there's been a lot of misinformation and misunderstanding surrounding these matters."
He writes, "For more than a year, U.S. prime money market funds have had no direct holdings of Greek or Portuguese debt, whether sovereign (issued by the government) or private. U.S. prime money market funds' holdings of debt in Spain, Ireland, and Italy were small as a share of the funds' portfolio a year ago and have declined rapidly. U.S. prime money market funds now have no holdings of Irish sovereign or bank debt. The latest public data as of April 2011 shows that Italian and Spanish bank debt combined accounts for less than 2 percent of prime funds' aggregate portfolios -- down by about half since last fall. There are good reasons why U.S. funds don't hold foreign sovereign debt: U.S. funds buy dollar-denominated securities, and most countries issue debt in their own currency (the euro, in these cases)."
The article asks, "What risks do those investments pose for U.S. money market funds and their investors?" It answers, "It would take a rapid collapse of one or more large European banks to have any impact on U.S. money market funds and their investors. What evidence is there that this could happen? Using the portfolio holding reports filed by money market funds, many analysts have looked at prime money market funds' exposure to Greece and the other 'periphery' countries through the funds' investments in debt issued by European-headquartered banks. Among the European banks in prime money market funds' portfolios, in every case the bank's direct exposure to Greek government debt is less than 1 percent of the bank's total assets -- and for most of the banks, it's much less."
ICI's Reid continues, "The credit rater Moody's draws another distinction -- between the banks' short-term debt, which money market funds hold, and their long-term issues. While Moody's recently announced it is reviewing the long-term ratings for three French banking groups, the same announcement reaffirmed Moody's highest rating on those banks' short-term paper. Thus, any exposure that U.S. money market funds have to these French banks is deemed of the highest short-term credit quality."
It adds, "Could those banks collapse? The Wall Street Journal's editorial page, which has fanned the flames by criticizing money market funds, says they won't: 'Neither France nor Germany can defend this plan [to roll over Greek debt] on grounds that a Greek default would destroy their banks.... [E]ven a 50% write-down would not destroy these banks. BNP Paribas is the largest private holder of Greek debt outside of Greece, and ... a 30% write-down of its Greek holdings would reduce its earnings per share by only 3%. The market agrees. The default-insurance premiums, or CDS spreads, on individual European banks indicate that the markets are not anticipating a sudden collapse of any bank that could pose a threat to prime money market fund portfolios."
Reid comments, "It's also important to note that neither money market funds nor their regulators have been standing still since the financial crisis. Money market funds operate with tighter regulation and greater resiliency now than they did in September 2008. Six months after the Reserve Primary Fund broke the dollar, the fund industry voluntarily adopted higher credit standards, shorter portfolio maturities, greater portfolio transparency, and explicit liquidity requirements for fund portfolios. In January 2010 -- six months before the Dodd-Frank Act passed -- the Securities and Exchange Commission adopted regulations based largely on those standards. These measures have made money market funds considerably more resilient: prime funds, for example, today hold $660 billion in assets that are liquid within one week, far more than the $310 billion outflow experienced in the week of Lehman Brothers' failure."
Finally, ICI writes, "No one can say with certainty how a European financial crisis would play out. But the Eurozone has been experiencing debt and financial concerns for more than a year now. Throughout this period, prime money market funds and other investors have reacted to changing developments. As fiduciaries to their shareholders, money market funds are constantly examining the quality of their portfolio and the creditworthiness of investments -- going above and beyond any credit rating agency ratings. Through this careful analysis and active monitoring, prime money market funds have already reduced the risk to their shareholders—and they continue to do so."
