Federated Investors' latest "Month in Cash, entitled, "Time for prime," looks ahead to the end of the Prime to Government money fund exodus. It says, "The lion's share of investor and media focus this month is on the SEC money fund reforms. But for cash managers and institutional investors, October's also the month in which institutional prime and municipal funds can finally get back to acting like themselves as the industry serves notice it is just as robust as before the reforms." We excerpt from this latest commentary and also quote from a Fitch release on European Money Market Funds.
Federated's Deborah Cunningham writes, "After weeks of shortening the maturity dates of securities we buy to ensure ample liquidity for the prime clients moving assets to government funds due to the floating net asset value (NAV) requirement, portfolio managers can now reacquaint themselves with attractive spreads and the good ol' London interbank offered rate (Libor). We can go back to making purchasing decisions based on relative value and not just liquidity. At Federated, this means that instead of having weighted average maturities (WAM) of, say, nine days, we will go back to targeting 40-50 days. Yields should follow, potentially jumping from the single digits to a 40-50 basis-point spread. This is all possible because the Libor curve is far above the Treasury curve."
She explains, "During the run up to the reforms, institutional prime investors and managers have watched in envy as all sorts of non-2a-7 investors—local government investment pools (LGIPs), private accounts, collective accounts, offshore accounts, separately managed accounts and more -- capture these spreads. But now they will finally get to take advantage of what is an extremely attractive prime money market yield curve. It is not going to happen overnight, of course, because of the need to be diversified. But over some short period of time, the expectation is that prime 2a-7 funds will start to emulate prime non-2a-7 funds."
The piece continues, "Looking at the money market industry as a whole, it is important to point out that far from demolishing money funds as many experts thought, at the end of the day the industry and Federated's total assets under management in this class of securities is basically identical to what it was before the reforms. What has changed is the components. Government funds grew; municipal and prime funds shrunk."
It adds, "Assets will shift back between these sectors, but not to the sizes they once totaled. But all told, the industry is healthy and continues to provide a diverse set of desired offerings to investors. We at Federated are certainly thrilled to go back to tending our own complete offering of money market products and to continue being a leader in cash management."
In other news, a release entitled, "Fitch: EU Standard MMFs Gain Ground; Credit Risk Varies Widely," explains, "European standard money market funds are gaining momentum, but the range of investment strategies is leading to wide disparity in credit risk, Fitch Ratings says in a new presentation. This poses challenges for investors."
It explains, "Highlights from Fitch's presentation on European MMFs from Crane's 2016 European Money Fund Symposium include: We estimate standard MMFs represented about 35% of European MMF assets at end-August 2016, up from only 30% two years ago; We expect this shift to continue; Low investment-grade assets frequently held in European variable net asset value MMFs; Materially different credit risk profiles in standard MMFs, with substantial variations in BBB/BBB- fund allocation, from 0% to well above 50%; and, Most standard MMFs would have to raise their portfolio liquidity under the latest proposed European MMF regulation."
Fitch writes, "Standard MMFs are variable net asset value (VNAV) funds, which are classified in the longer MMF category (up to 12 months' weighted average life) under European regulation. Investor demand for this product has been growing over the past couple of years. We estimate they represented about 35% of European MMF assets at end-August 2016, up from only 30% two years ago, as Continental European investors shifted from short-term MMFs (less than 120 days' weighted average life) to standard. We expect this shift to continue as standard MMFs may appeal to investors as a complement to more conservative, lower-yielding money funds, especially in the current ultra-low euro yield environment."
They say, "Low investment-grade assets are frequently held in European VNAV funds and most notably in standard MMFs, where two-thirds of funds invest in 'BBB' or 'BBB-' securities. But there are substantial variations in the actual fund allocation to such securities, resulting in funds having materially different credit risk profiles. For example, funds had on average 2% exposures to 'BBB' securities at end-June 2016 according to Fitch's latest study, with allocation ranging from 0% to well above 50%. Supply opportunities in non-financial corporates and yield pick-up opportunities are key drivers of funds' allocation to low investment grades."
Finally, Fitch comments, "Portfolio liquidity management practices vary greatly among standard VNAV MMFs, with average allocation to assets maturing within a week at 9%. Most of them would have to raise their portfolio liquidity under the latest proposed European MMF regulation revisions from the Council of the European Union, which would require 15% in weekly liquid assets. The proposed regulation is now in its trilogue phase, where European institutions need to agree on a final text."
