With now less than 5 months to go before the remaining money market reforms go live, fund managers continue to ramp up their communications. Wells Fargo Funds' discusses how reforms are changing the investment landscape in their latest "Overview, Strategy, and Outlook," First American Funds reviews the April 14 "Phase II" MMF reforms in a commentary called, "Two Down, One To Go," and, Fort Pitt Capital Group looks forward to a "whole new ballgame" in its piece, "Money market reform finalized." We review these updates below.
Wells commentary, written by Head of Money Funds Jeff Weaver and his team, says, "In the 21 months since the SEC published its amendments to Rule 2a-7, much planning has gone on behind the scenes to prepare for the implementation deadline of October 14, 2016, though it may not seem like it from all outward appearances. Other than announcements about fund lineups and anticipated changes from mutual fund companies, as well as the conversion of approximately $235 billion in prime funds to government funds, not much about the industry appears to have changed. [B]oth institutional prime and government fund assets have remained relatively flat to their July 2014 balances. In spite of the planned fund migration from prime funds to government funds, institutional prime fund assets have decreased only approximately $109 billion while institutional government fund assets have increased about $115 billion."
It continues, "Based on surveys fortified by conversations with existing shareholders, many industry observers have concluded that a large number of institutional prime shareholders will migrate from prime funds to another as-yet-unidentified product as a result of product changes to a variable NAV as well as the possibility of fees and gates being imposed. However, it's still unknown when these changes will occur. Because these funds' primary objectives are liquidity and stability of principal, risk management would suggest that in the face of presumably large shareholder redemptions of unknown timing, portfolio managers will begin to build liquidity and shorten the average maturity of their funds, which now seems to be the case."
Wells explains, "Crane Data reports that the weighted average maturity of all institutional prime funds has decreased from 40 days at the end of July 2014 to 30 days at the end of April 2016. Over nearly the same time period, the SEC reports the following changes from July 2014 to March 2016: Weekly liquid assets of prime funds increased from 39% to 43%, the amount of securities maturing in more than 60 days dropped from 42% to 37%, and the amount maturing in more than 180 days dropped from 12% to 4.6%."
Furthermore, they tell us, "Should uncertainty still rule the day, it seems reasonable to expect this trend to continue. As we have discussed a number of times in previous commentaries, the desire of portfolio managers to invest in shorter maturities is often at odds with issuers' regulatory requirements to issue longer dated securities. This relative scarcity on the short end of the money market curve could cause short prime rates to go even lower; if demand overwhelms supply in that part of the curve, portfolio managers may be forced into other sectors in order to meet diversification and regulatory requirements -- most likely the government sectors and/or increasing usage of the Federal Reserve's (Fed's) reverse repo facility."
Wells concludes, "As all this works its way through the system, the end result could be very liquid prime funds at lower yields. The key to solving this conundrum is information: The more certain fund managers become of the size and timing of large cash flows, the better they are able to manage funds and provide competitive returns with an optimal level of liquidity. By early fall, it is our expectation that many of these unknowns will become more clear and portfolio structures will be readjusted accordingly."
Also, in First American Funds' piece, Managing Director Lisa Isaacson writes, "Whew! That collective sigh of relief you just heard is from all of the money market fund managers who have just gotten through the second Money Market Reform deadline. Hopefully, it seemed like a non-event to investors, but we can assure you a lot happened behind the scenes to meet the Securities and Exchange Commission's (SEC's) April 14, 2016 deliverable.... More fund information, available in a standard and timely format can only help investors understand their investments. We are all for transparency and ensuring investors have the data needed to make informed decisions."
She says, "Making stress testing more stringent and standardizing the testing parameters will assist fund families in assessing whether their portfolios are positioned to withstand market events. Results may ultimately be incorporated into portfolio composition. Stress testing models can also be utilized off-cycle to assess how a specific market event may impact a portfolio's liquidity or share price. Ultimately, fund families want the same thing as investors want -- a stable share price and ample liquidity to honor redemptions -- and enhanced stress testing is another tool to help managers achieve these objectives."
On Enhanced Diversification, Isaacson writes, "The 2014 reforms limited the maximum exposure to an entity by requiring funds to aggregate affiliate issuers and also put more stringent limits on exposure to asset-backed commercial paper sponsors and demand-feature guarantors. Admittedly, that may be a bit hard to follow and the rules are quite technical.... These diversification enhancements are designed to spread out the risk in money market funds and limit any potential downside impact should an issuer or guarantor get into trouble. At First American Funds, we agree so much with these changes that we were actually following similar guidelines several years before the SEC proposed them."
She adds, "In reviewing historic weekly liquid asset percentages of the First American Prime Obligations Fund, one can see that our portfolio manager has carried liquidity well in excess of 30%, a trend we expect to continue. It is our position that shareholders invested in money market funds expect principal preservation and daily access to their investment. We will continue striving to manage our portfolios with weekly liquid assets in excess of the 30% fee and gate trigger."
Finally, Fort Pitt Capital Group's commentary says, "Looking ahead, we believe the additional headaches which the new rules create for institutional investors may cause many to simply exit the product. As a money manager, if for many years you've been able to count on redeeming your money fund investments at $1.00, with very little risk of loss and immediate liquidity, the new rules are a whole new ballgame, and not a fun one at that."
They add, "If investors can't count these investments as cash [sic], and they may not have access to them when they need them most, what good are they? Many institutional investors are therefore likely to drop the product altogether, and move to a government-only money fund, or invest their cash themselves, directly in U.S. Treasury bills. Thus the ultimate effect of these rules could be to further fuel demand for U.S. government debt, while reducing the demand for private credit."
