Morgan Stanley on EU MMF Reform
Reuters writes "European money market reforms to have global impact: Morgan Stanley," which discusses a recent update from Morgan Stanley entitled, "`EU MMF Reform: On the Horizon, but Uncertainty Remains." Reuters' story explains, "Proposed money market reforms in Europe could raise short-term borrowing costs for banks around the world if some funds shun bank debt in favor of owning only government securities, according to Morgan Stanley analysts. This move has already occurred in the United States, where a number of U.S. prime money funds have been converting to government-only portfolios since late last year, ahead of new regulations on the $2.7 trillion industry which go into effect on Oct. 14. Government-only funds are exempt from some provisions, including floating per-share price and fees imposed during times of market volatility, which some corporate treasurers and institutional investors dislike. Reduced demand from U.S. prime funds for commercial paper and certificates of deposit issued by banks has raised a benchmark on interbank borrowing costs to its highest in over seven years. Morgan Stanley analysts Mikhail Levin and Jesper Rooth said in a report late Thursday that European money funds may respond similarly to their U.S. counterparts as European Union regulators seek to finalize rules to safeguard a sector that was roiled following the collapse of Lehman Brothers during the global financial crisis in September 2008." The Morgan Stanley report comments, "Although MMF reform in Europe is more than two years from full implementation, with final rules still undecided, we find it valuable to understand the market backdrop and the potential changes coming out of reform. The majority of fixed NAV funds in Europe are actually USD and GBP denominated (about 50% of the E1tn total EU MMF AUM), suggesting that investors in these markets should be cognizant of the path to EU reform. To the extent that prime AUM, which makes up the bulk of the fixed NAV EU market, moves to government funds, demand for short-term financial paper will decline even further. That said, the proposed structure of EU reform is slightly different than in the US. Prime funds will similarly have to mark-to-market, though there will be a new category of fund (termed 'low volatility NAV')." The piece adds, "The important point to note is that unlike in the US, the European market already has a significant share of floating NAV funds, which may make regulatory transition away from fixed NAV funds less of a shock. However, most of these funds are 'standard' MMFs, which can own assets with up to 2y maturities and have max WAMs/WALs of 6 months/12 months (rather than the traditional 397-day max maturity and 60-day/120-day WAM/WAL limits for 'short-term' Euro funds and all US funds). Based on ECB data, the majority of these VNAV funds are domiciled in France, though the relative proportion of these funds has shrunk. This is likely the result of AUM moving to foreign-currency-denominated CNAV funds, where investors don't need to contend with negative money market rates permeating the Eurozone and limiting EUR-denominated MMF returns. The actual balance of EUR-denominated CNAV funds is quite small, particularly in the current environment where investors are generally forced to realize negative yields through share redemptions (the NAV remains fixed but the number of shares the investor holds declines to pay for the negative yield). While the US MMF industry is close to $3tn, the EU domiciled industry is around a third of that, at E1tn. Much of the Euro area domiciled MMF AUM is in USD and GBP funds vs. US MMFs which can only invest in dollar assets (about 85% of fixed NAV Euro area-domiciled funds are USD or GBP denominated). There is traditionally significant AUM in Euro area variable NAV (VNAV) funds, which is not the case in the US (about 45%). There is an additional category of VNAV MMF in Europe (termed 'standard' MMFs) that can have longer average durations than 'short-term' Euro MMFs whose regulations are in line with those of US MMFs." (Note: European-domiciled money market funds will be the focus of Crane Data's 4th annual European Money Fund Symposium next month, Sept. 20-21, in London at the London Tower Bridge Hilton.)
