Below, we review two recent articles on US MMF reforms. The first, by Treasury & Risk magazine, is entitled, "Bracing for New Money Fund Rules," while the second, from The Treasurer, is entitled, "All stocked up and nowhere to invest." Also, we excerpt from a statement by the London-based Institutional Money Market Fund Association, entitled, "IMMFA Reacts to European Council's Money Market Fund Regulation." (See our June 16 News, "European Money Fund Reform Deal Poised to Pass; CNAVs to Be LVNAVs.")
T&R's "Bracing" piece says, "The approach of the October implementation date for new rules governing institutional prime money market funds is shaping up as a dividing line for corporate treasuries and other institutional investors, with many observers predicting a mass exodus from prime funds in the months before the rules take effect."
It quotes Fitch Ratings' Roger Merritt, "There is an expectation that sometime this summer -- the end of the second quarter, certainly going into the third quarter -- a significant amount of the money that is in institutional prime funds will move over into government money market funds. Treasurers are either undecided about how they feel about the new features of institutional prime funds or they're just sort of nervous about getting through this period of transition.... I think many of them will choose the safest route and move the money into government money market funds."
It continues, "Michael Berkowitz, head of North America and global liquidity product management at Citi, said a Citi survey last year of its institutional and corporate clients showed they expected from $200 billion to $400 billion of the roughly $900 billion in prime funds at the time would flow out of the funds. Berkowitz predicted that the move out of prime funds "is likely to ramp up in the September time frame."
Treasury & Risk writes, "Many observers expect, though, that corporate investors' move out of prime funds will be temporary and that companies will filter back into prime funds once they see how they're operating under the new regime.... Others question whether treasurers will flee prime funds at all. "The companies we know that invest in institutional prime intend to keep doing it in the future," said Paul LaRock, a partner at consulting firm Treasury Strategies."
The article adds, "Tory Hazard, president and chief operating officer at ICD, a trading portal for institutional investors, said monitoring the NAVs of prime funds shows there's very little movement. Since funds began providing daily data in mid-April, "four of the biggest funds on our portal have not had any variability and two have varied by a basis point," Hazard said.... "The clients that we've spoken with that are in prime funds don't intend to move, once they understand it," Hazard said. "We don't think there will be a huge migration."
Finally, the article says, "One wild card going into the fall is Federal Reserve monetary policy.... If the Fed tightens again and the spread widens more, that could convince some corporate investors to stay put in prime funds. "Once the yield differential between prime and government funds gets between 25 to 40 basis points, that would make prime funds significantly more attractive to investors," Berkowitz said.... Citi has also been talking to the fund companies it works with about possible new offerings, Berkowitz said, including seven-day funds and private funds.... Fund companies are also adding short-term bond funds, which have the same floating NAV as prime funds will have once the new rules go into effect, but aren't subject to fees and gates."
In The Treasurer's "All Stocked Up" piece, Treasury Strategies' Tony Carfang writes, "Prime institutional funds will be required to float the net asset value (NAV) and their boards will be empowered to institute liquidity fees and redemption gates. These regulations have led to steady outflows since the first proposals in 2010. Assets have fallen from $1.7 trillion to $1.2 trillion, mostly flowing into government MMFs. There is speculation that the decline will continue as the effective date approaches. In preparation, many fund managers are shortening their maturities. Some managers are investing very little with maturities beyond October 2016."
He continues, "Several problems flow from this: Prime institutional funds are the market's largest purchaser of commercial paper. With assets shrinking, there are fewer buyers of corporate commercial paper. As fund managers shorten their maturities, treasurers are left with issuing shorter-term securities, creating transaction cost and rollover risk. As investors, treasurers find themselves relegated to lower-yielding government funds. Some treasurers feel that the combination of a floating NAV, liquidity fees and redemption gates render prime MMFs a less effective instrument and possibly at odds with the company's investment policies. We have the contrary view that the regulations simply remove some of the clear advantages of prime MMFs and place them on par with other MMF instruments and bank deposits."
Carfang explains, "Consider the three key planks: 1) Floating NAV -- Prime funds had enjoyed a constant NAV of $1 per share and treasurers loved that. Now they must float. In reality, though, every other instrument in the market that is not held to maturity with absolute certainty also floats continuously.... MMFs are now simply on par with all other instruments." 2) Liquidity fees -- Again, MMFs enjoyed daily liquidity, even when market stress imposed 'fees' on all other market instruments."
He continues, "3) Redemption gates -- This is probably the most misunderstood market phenomenon. Money markets are generally robust and there are always buyers available to match sellers. Well, not quite. Markets can and do experience liquidity gaps, sometimes severe, in which no transactions take place. The market participants themselves impose the gate. The most significant recent example was the freezing of the auction rate securities market in 2008.... Most bank depositors are unaware that, in the event of a bank failure, the Federal Deposit Insurance Corporation is not obligated to immediately repay depositors. Uninsured depositors (most corporations) could conceivably wait for years in the case of a complex resolution."
Carfang concludes, "Treasurers are gradually becoming aware that, from the standpoint of investor utility, prime institutional funds are still the most attractive instrument. We believe that, although assets will continue to decline as we approach the October go-live date, they will rebound quickly and remain the instrument of choice for US treasurers."
Finally, on pending European money fund reforms, IMMFA states, "On Friday June 17 the European Council adopted its compromise position on the Money Market Fund Regulations. This step enables the Council, the European Parliament and the European Commission to commence negotiations in trialogue to finalise the regulation. Further changes are expected as negotiations continue, and unfinished work remains on several key aspects. Nevertheless, this is a milestone for the MMFR, which is now at a more advanced and workable stage than ever before."
Jane Lowe, IMMFA Secretary General, comments, "We welcome and acknowledge the Council's hard work to find an acceptable compromise amongst the 28 Member States. The introduction of three forms of money market funds (government stable NAV, low volatility NAV and variable NAV) provides optionality and clarity, benefiting money market fund investors. We welcome the Council's pragmatism in permitting fund ratings to be sought by money market fund managers, and in providing for an implementation period that allows investors, managers and service providers to ready themselves."
She continues, "Nevertheless, the IMMFA is disappointed that the restriction of government debt as a liquid asset means that government debt stable NAV funds and the low volatility NAV funds may ultimately prove unworkable. If properly constructed, these structures would provide security and optionality for investors. Bringing certainty to the future shape and regulation of the €500 billion European constant NAV money market funds sector will enhance their ability to serve clients and help ensure they are better positioned for European efforts to build alternatives to bank funding in the Capital Market Union."
