Yesterday, Moody's Investors Service published a piece entitled, "Fed's New Overnight Reverse Repo Facility Offers Supply Benefits to US Money Market Funds," which says, "On Monday, the Federal Reserve Bank of New York (FRBNY) initiated a new overnight fixed-rate reverse repo facility in an effort to provide the US Federal Reserve (Fed) with greater control over short-term rates. The new facility will significantly increase the supply of high-quality liquid assets available in the market, a credit positive for US money market funds and particularly the 94 money market funds eligible to participate in the facility."
V.P. and Senior Analyst Rory Callagy writes, "Under the new facility, a wide range of counterparties are eligible to lend cash to the Fed on an overnight basis, with the loans collateralized by US Treasury securities held in the Fed's $3.4 trillion System Open Market Account (SOMA) portfolio. The Fed set the initial rate at which it is willing to borrow at one basis point, but indicated that this rate could move up to as high as five basis points. Facility participants will initially be limited to maximum loans of $500 million with the potential for that limit to increase to $1 billion over the life of the facility. In addition to the 94 eligible money market funds, the remaining participants include six government-sponsored entities, 18 banks and the 21 primary broker-dealers. The Fed expects the facility to conduct overnight operations through January 2014."
He explains, "The liquidity and credit profiles of money market funds stand to benefit from an increase in the supply of high-quality short-term assets, such as US Treasury and agency securities, at a time when these assets are scarce owing to high demand. The facility will be particularly beneficial as regulatory-driven bank deleveraging has reduced the level of short-term broker dealer repos available to money market funds. Greater supply of high-quality short-term assets will benefit all US money market funds, but the 94 eligible money market funds will benefit most, as they are the only ones eligible to access reverse repos with the Fed."
Finally, Moody's adds, "Another benefit to money market funds is that the reverse repo facility will tend to set a floor on money market rates, reducing the risk of increased waivers of money market fund fees. Investors are not likely to accept lower overnight lending rates than the benchmark rate paid by the Fed. That rate backstop will help money market fund managers, who have struggled to generate returns in a low-yield environment, and continue to waive management fees in order to deliver a positive net yield. US money market funds have waived $18 billion in fees over the last four years, including $4.8 billion in 2012. The Fed's new facility is likely to provide fee pressure relief over time as the Fed increases its reverse repo overnight borrowing rate."
In other news, the U.S. Treasury's Office of Financial Research (OFR) released a report on "Asset Management and Financial Stability" which says, "The OFR delivered this report, Asset Management and Financial Stability, to the Financial Stability Oversight Council (Council) on ways that activities in the asset management industry could pose risks to the financial stability of the United States by creating, amplifying, or transmitting stress through the financial system. The OFR studied the activities of asset management firms and funds at the request of the Council. In developing the report, the OFR staff reviewed existing research, analyzed industry data, interviewed market participants, and consulted extensively with Council member agencies."
It explains, "This report provides a brief overview of the asset management industry and an analysis of how asset management firms and the activities in which they engage can introduce vulnerabilities that could pose, amplify, or transmit threats to financial stability. The Financial Stability Oversight Council (the Council) decided to study the activities of asset management firms to better inform its analysis of whether -- and how -- to consider such firms for enhanced prudential standards and supervision under Section 113 of the Dodd-Frank Act. The Council asked the Office of Financial Research (OFR), in collaboration with Council members, to provide data and analysis to inform this consideration. This study responds to that request by analyzing industry activities, describing the factors that make the industry and individual firms vulnerable to financial shocks, and considering the channels through which the industry could transmit risks across financial markets."
Finally, the introduction says, "The report does not focus on particular risks posed by money market funds. In November 2012, the Council released a detailed analysis of these funds and their risks, and the Securities and Exchange Commission (SEC) recently proposed additional reforms. In addition, the activities and risks posed by hedge funds, private equity, and other private funds are not addressed in detail. Additional analysis will be conducted in conjunction with further analysis of data that these funds have begun to file on Form PF. The OFR, SEC, and Commodity Futures Trading Commission (CFTC) are currently evaluating these data for monitoring purposes."
