Fitch Ratings published two updates this week -- "Non-government Assets Remain Prominent within Repo Markets" and "European Treasurers Using CNAV MMFs Value Clarity. The first says, "An updated Fitch Ratings review of collateral within the triparty repo market highlights some of the inherent liquidity risks associated with financing non-government securities through this short-term funding mechanism, as discussed in a report published today. Repos remain an important funding mechanism for a range of asset classes. FRBNY data indicates that, as of March 2013, approximately $1.83 trillion in assets were financed by the U.S. triparty repo market, a 10% increase since the beginning of 2012."
Fitch explains, "According to Federal Reserve Bank of New York (FRBNY) data, structured finance represents approximately 4-5% of total U.S. repo collateral, equating to roughly $75 billion funded through this short-term credit market. The amount of structured finance funded through tri-party repo is about 10x the average daily trading volumes for these securities, an indication of the potential challenges should any reductions or disruptions to triparty repo funding for these assets occur."
They explain, "Based on Fitch's analysis of the disclosures of U.S. prime money market funds (MMFs), which provide unparalleled detail on repo collateral, structured finance repo is typically collateralized by deeply discounted, small-sized legacy securities. Over half of Fitch's sample consists of subprime and Alt-A RMBS and CDOs. Since money funds are short-term, highly risk-averse investors, a reduction in MMF appetite for this form of collateral could negatively affect the underlying asset class and repo borrowers more broadly."
Fitch adds, "Several senior government officials and agencies have highlighted the risks of using short-term wholesale funding, including repo, to finance less liquid assets. Fitch's prior research demonstrated that repo funding for structured finance assets largely evaporated at the height of the U.S. credit crisis. Fitch believes this loss of liquidity likely contributed to the steep valuation declines in this asset class during that period. For some money funds, structured finance repos provide a higher return opportunity in the ongoing low-yield environment. Repos also provide security dealers a source of leverage and cost-effecting funding for their structured finance securities."
The other update says, "Fitch Ratings says that European treasurers and others investing in constant net asset value (CNAV) money market funds (MMFs) are likely to be the most impacted by the current regulatory debate around MMFs in Europe. Fitch has further analysed the results of a survey of European treasurers published in conjunction with Treasury Management International (TMI) on 26 February 2013 due to strong market interest, focusing on those respondents investing specifically in CNAV and differentiating by the respondent firms' total cash holdings."
It explains, "Almost half (47%) of European treasurers investing in CNAV MMFs, irrespective of the amount of their cash holdings, view a regulatory shift to variable NAV (VNAV) MMFs as a potential concern as the funds' risk profile may become less clear. This compares with 26% for all respondents as presented in Fitch's February survey. This is consistent with the widely held view of European treasurers' that the main strength of CNAV funds is their clear risk profile (cited by 71% of CNAV users). 50% of CNAV investors also cite their simple tax and accounting treatment as a strength (vs. 31% for the total sample of treasurers), which might disappear in VNAV funds."
Finally, they add, "In their rationale for a move to VNAV, regulators have expressed the view that CNAV MMFs are perceived as being 'guaranteed', heightening the risk of a 'run.' Approximately 50% of European treasurers using CNAV MMFs cited the 'false perception of a guarantee' as, in fact, being a drawback of CNAV MMFs. This seems to highlight that treasurers understand that CNAV MMFs are managed products subject to potential losses. Conversely, these same CNAV investors place great emphasis on the importance of the sponsor, including the potential for a fund bailout."
