A new report by Moody's examines how the impact of money market fund reforms will vary in the US and Europe. Specifically, the report, entitled "Money Market Fund Reform in US, EU: Similar Rules, Different Effects," says reforms in the U.S. will likely spur the growth of government money funds, while the European market will become more heterogeneous post-reforms. Also, the Federal Reserve's Federal Open Market Committee meeting adjourned yesterday with no movement on interest rates, as most expected. However, in a press conference Wednesday, Fed Chair Janet Yellen reaffirmed that the first rate hike will likely come later this year. She also provided new projections for the "dot plot."
A release says, "European policy makers have proposed money market fund (MMF) reforms relatively similar to the US changes slated to take effect next year," says Moody's Investors Service in a new report published today. "As in the US, the goal in Europe is to enhance MMFs' ability to withstand stressed market conditions, reducing systemic risk. However, reforms will have diverging effects in these markets, given their very different starting points," observes Vanessa Robert.
Marina Cremonese, a Moody's analyst, says, "For investors, the new money fund regulations will generally translate to more conservative portfolios, because portfolio managers will want to limit net asset value volatility. Investors can expect more transparency around fund valuation from portfolio managers, but also lower yields." Moody's also expects a proliferation of MMF types, especially in Europe, which could confuse investors.
The release continues, "In the US, Moody's expects government and treasury funds to represent a bigger slice of US MMF assets. Prime MMFs will shrink in size and primarily appeal to retail investors, who can continue to invest in constant net asset value (CNAV) structures. Institutional investors will only find prime MMFs attractive if the yield differential with government MMFs is high enough to compensate for the risk of fees and gates."
Finally, Moody's explains, "The rating agency forecasts that MMF assets both in the US and in Europe will remain fairly stable, despite a reallocation of assets within the different types of MMFs. The US government and treasury MMF segment could grow by as much as 25% in assets. In Europe, Moody's considers that low volatility net asset value (LVNAV) funds have the potential to widely replace prime CNAV MMFs, which currently account for about 60% of the MMF sector. At the asset manager level, Moody's expects the industry to remain concentrated with potential for further, although limited, consolidation both in Europe and in the US. These regulations favour the bigger players who are able to leverage their scale to more easily stomach increasing costs and are in a better position to offer a variety of cash and short term investment solutions to investors."
The Fed's latest FOMC statement says, "The Committee continues to see the risks to the outlook for economic activity and the labor market as nearly balanced. Inflation is anticipated to remain near its recent low level in the near term, but the Committee expects inflation to rise gradually toward 2 percent over the medium term as the labor market improves further and the transitory effects of earlier declines in energy and import prices dissipate.... To support continued progress toward maximum employment and price stability, the Committee today reaffirmed its view that the current 0 to 1/4 percent target range for the federal funds rate remains appropriate. When the Committee decides to begin to remove policy accommodation, it will take a balanced approach consistent with its longer-run goals of maximum employment and inflation of 2 percent. The Committee currently anticipates that, even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run."
Chair Yellen did provide some additional insights in her press conference that followed the release of the statement. On the "dot plot," Yellen comments, “Compared with the projections made in March, most FOMC participants lowered somewhat their paths for the Federal Funds Rate consistent with the revisions made to the projections for GDP growth and the unemployment rate. The median projection for the Federal Funds Rate continues to point to a first increase later this year with the rate rising to about 1 3/4 percent in late 2016 and 2 3/4 percent in late 2017. In 2016 and 2017 the median path is about 1/4 percentage point below the projected in March."
She adds, "Waiting too long to begin normalization can risk significantly overshooting our inflation objective given the lags in the operation of monetary policy. On the other hand beginning too early could risk derailing recovery that we have worked for a very long time to try to achieve. I want to emphasize, sometimes too much attention is placed on the timing of the first increase in the Fed Funds Rate. What should matter to market participants is the entire expected trajectory of policy. We have no plan to follow any type of mechanical approach to raising the Fed Funds Rate."
On raising rates this year, Yellen states, "Clearly most participants are anticipating that a rate increase this year will be appropriate -- that assumes that they are expecting a pickup in growth the second half of this year and further improvement in labor market conditions. We will be making decisions however that depend on the actual data that we see in the months ahead. Certainly an increase this year is possible. We could certainly see data that would justify that."
Later in the press conference she adds, "I can't give an ironclad promise but I think it's clear from our summary of economic projections that we anticipate that the economy will grow, that the labor market will improve, and that inflation will move back up to 2%.... As you can see the largest number of participants anticipates that those conditions should be in place later this year."
On the impact to "savers," Yellen continues, "From the point of view of savers, of course this has been a very difficult period. Many retirees, and I hear from some almost every day, are really suffering from low rates that they had anticipated would bolster their retirement income. This obviously has been one of the adverse consequences of a period of low rates.... When the time comes for us to raise rates, I think there will be some benefits that flow through to savers."
Finally, on the Overnight Reverse Repo Program she states, "We communicated in our minutes that the committee has an intention to make sure that RRP is available in large quantities at lift off to ensure that we have a smooth liftoff. However it is our plan to fairly quickly after liftoff reduce the level of the Overnight RRP facility and we have a variety of ways in which we can do that."
