On Friday, Federated Investors, the 4th largest manager of money market mutual funds, hosted its "Q2 2016 Earnings Conference Call." (See Friday's "Link of he Day" too.) Ray Hanley, President of Federated Investors Management Company, commented, "Looking now at money markets, assets decreased by about $7 billion from Q1, reflecting both tax-related seasonality and certain client specific activity. Money market assets were up about $13 billion from Q2 of 2015. Our Money Market Fund share remained at approximately 8%. Now, we are beginning to see some client activity related to the October 2016 requirement for floating NAVs and redemption fees and gate provisions for institutional, prime, and muni funds. We have seen increased interest in our government funds. We're also working through final regulatory approvals in order to launch a collective fund with a prime portfolio and we are pursuing a private prime fund vehicle with institutional clients. We expect activity levels to increase as we move through the third quarter and investors sort through their options."
He continued, "To give you one idea of some of the movement, I'd like to compare the change in our Money Market Fund assets from the second quarter of 2015 to today and then compare them over the last quarter from year end to today. So, from 2015 second quarter, our total is up about $8 billion led by government up $21 billion and prime is down $5 billion and tax free is down $5 billion. Now, if you look at the change from the end of the year of 2015, we are down $5 billion, our government is up $17 billion and the prime is down $16 billion and tax free is down $5 billion. So, you can begin to see the movement from prime into govie. Taking a look now at some of our most recent totals as of July 27, managed assets were approximately $366 billion including $252 billion in money markets, $63 billion in equity, and $51 billion in fixed income. Our mutual fund money market assets were $215 billion, and the July average has been about $216 billion."
CFO Tom Donahue told the call, "Revenue was up 26% compared to Q2 of last year and 5% from the prior quarter due mainly to lower money fund yield related fee waivers.... Operating expenses increased 25% compared to Q2 of last year and 1% from the prior quarter due mainly higher money market fund distribution expense as a result of lower waivers.... The pretax impact of money fund yield related fee waivers of $5 million was down from the prior quarter and Q2 of last year. The decreases were due mainly to the higher fund gross yields."
He added, "Based on current assets and yields, we expect the impact of these waivers on pretax incomes in the third quarter to be about $4 million. An increase in yields of 25 basis points would lower this waiver impact to about $1 million per quarter and a 50 basis point increase would nearly eliminate the waivers. As we've previously discussed, the impact of the change in one of our customer relationships may reduce pretax income by about $6 million per quarter when fully implemented in late 2016. The actual reduction may vary based on asset levels and yields at the time." (Note: For more on this last point, see our March 10 News, "Federated, Edward Jones Restructure Money Fund Deal; New 10-K Filing.")
During the Q&A session of the call, Federated management was asked about non-U.S. distribution. Chris Donahue briefly touched money funds, saying, "In terms of the London distribution, we're seeing good positive flows in the Sterling Fund and positive flows in the Money Market Funds that are headquartered in our prime rate group in London."
Deborah Cunningham, Federated's Chief Investment Officer for Money Markets, answered a question about money market supply and new repo counterparties, "We have gone down that path. There has been a huge cutback in what was the traditional supply from traditional dealers in the repo marketplace over the course of the last seven or eight years. So, we begun to look under the rocks to try to find high quality, what I call, non-traditional counterparties.... [I]nsurers generally come to mind, what would they basically be semi-sovereign types of institutions. And we work directly with them the same type of contractual agreements that we would have with the dealer or a bank we put in place with those entities also. And we're finding capacity along those lines. It's slow going. It's one step forward, maybe a half a step back, but we're making progress in it."
When asked about investor acceptance of the new floating rate MMFs, Federated President & CEO Chris Donahue responded, "In terms of discussions with customers, they vary from customer to customer. Many are still biding their time. Some are just coming to the realization that October is real and some have begun to move from prime into a 'govie'. [This] can be viewed as the default option, because the client gets to keep daily liquidity at par and can put off a decision on what really to do with whether they want to go through systems changes etc. What are the spreads going to be? We don't know.... I'm going to have Debbie comment to you on the spreads and what's going on [with] that side. But we are seeing interest by people who are going to stay in a floating institutional fund."
Cunningham added, "The more conversations we have, the more interest people have in [segmenting] their cash.... So [they are] coming up with some estimate of cash that might be needed on an overnight to one week basis, and it has a lot more to do with what would be changing cutoff times than it does actually the floating NAV aspect of it. Because of that floating NAV aspect, the cutoff time to our prime institutional products that will be mark-to-market transaction ... those products will move [from] 5pm to 3pm. So, our government funds will stay at 5:00 o'clock, in addition to our retail funds.... [C]lients that are in need of the potential to have that 5:00 o'clock trading on a regular basis, will have [to] keep it in government... The next liquid segment [will be in a] floating NAV product as long as there's a total return advantage."
On spreads, she explained, "We're basically [seeing a prime institutional] spread of about 15 [bps] over government products right now. If you look at retail prime, we're looking at a spread of about 20 basis points. If we go out to offshore products regards impacted by the regulation, we're looking at something that is probably 25 to 35 basis points over government products right now. Our expectation would be that from a private and a collective fund standpoint, those will be similar types of spreads."
Finally, Cunningham added, "The reason that the institutional prime spread is lower at this point is just the conservative nature with which we're running those particular products with a huge amount in overnight and weekly liquidity to accommodate shareholders when and if they do actually need to leave that product. So, once we lift the calendar from October 14 to October 17, you'll see that spread on the institutional prime go out also. My expectation would be that it doesn't grow nearly as much through October 14 because of that conservative strategy."
