Last week, we wrote about recent webinar from SSGA and a 10-K filing from Federated. State Street Global Advisors followed up the webinar with the publication of a white paper, entitled, "Global Cash: State of the Markets," which discusses the return to Prime, European reforms and the Fed in more detail. Meanwhile, Federated CEO Chris Donahue spoke yesterday at a Citi conference and weighed in on these subjects, as well as competitive pressures in the space. We review both the paper and the speech below.
SSGA writes in a 20-page piece that "2017 marks a fresh beginning for the world of cash investing." They summarize, "New investment parameters are impacting cash investors worldwide. The long-awaited money market fund reform is past in the US and is now rapidly approaching in the European Union. Meanwhile, global interest rates are beginning to diverge, and we expect this trend to intensify in 2017."
The paper explains, "For investors on both sides of the Atlantic, we see the potential for additional returns among US dollar-denominated prime and short-term bond funds, within a risk profile acceptable for most cash investors. In the US, in response to money market fund (MMF) reform implementation, the yield spread of prime vs. government funds had moved incrementally higher, to about 30 basis points (bps). The spread has continued to rise, and we expect it to remain in the 30–35 bps range (see Figure 1) in early 2017 driven mainly by technical factors; credit conditions among MMF counterparties are widely viewed as strong and stable. Capitalizing on this, we expect at least $200 billion to move into US prime funds."
SSGA tells us, "Looking back at the October 2016 US reform deadline, investors exercised extreme caution as reflected in an unprecedented $1.1 trillion move from prime funds largely to government funds. Yet reform arrived without a hitch. Liquidity and principal were preserved. Government funds seamlessly absorbed the influx with some assist from the Fed's Reverse Repurchase Agreement Operations (known as RRP). The changes were well telegraphed, and everyone involved -- cash investors, portfolio managers and credit issuers -- had adequate time to make adjustments and avoid disruptions. As expected, the share prices of the newly floated prime funds avoided significant volatility. Money funds maintained more than ample liquidity, obviating the need to contemplate fees or gates despite an asset transfer representing three-quarters of prime fund assets."
They continue, "While we understand investors' need to exercise an abundance of caution, there's irony in this unprecedented asset transfer. The prime funds that investors fled from are arguably more transparent and more liquid than at any time since the SEC adopted regulation 2a-7 in 1983. Indeed, reform was conceived to further protect both cash investors and the wider financial system. We see no reason to believe this goal has not been achieved." The report discusses
State Street's update concludes, "As always, there are pockets of risk and uncertainty across the global economy, which we will be monitoring closely as 2017 progresses. Yet based on the data currently available to us, SSGA is optimistic that 2017 will be stable for cash investors, characterized by the slow rise in interest rates and strong credit fundamentals for MMF counterparties. With a new regulatory friendly administration in Washington, a successful phase-in of US money fund reform, and visibility on the upcoming EU reforms, we believe cash investing is entering a new era of increased safety and liquidity. All this presents an opportunity for investors to diversify beyond government MMFs, by considering whether higher yielding strategies such as prime funds and short-term bond funds are appropriate for their needs. SSGA remains available to review your cash needs and to help analyze which options are most appropriate for you."
In other news, Federated Investors' President and CEO J. Christopher Donahue spoke yesterday at the "Citi 2017 Asset Management, Broker Dealer & Market Structure Conference." The Q&A included several inaudible questions about money market funds, though Donahue's answers were clear. He was asked about fee pressures, assets, and Federated's market share, and responded, "Since the mid-'70s when we came out with these money funds, the fee situation has never been off the table as a competitive issue <b:>`_. Remember our first money fund came out at 100 basis points. And before long we had a family of funds that were 55 basis points and not before long there were 20 basis points, then 18. Then there was another family of funds that jumped in at 105. How did that happen?"
Donahue added, "There's a great history of movement.... The resiliency behind this, which inspires us to be enthusiastic about this business, is that despite the abuse, the changes that money funds have gone through the last several years, including several rounds of regulation, there is still $2.7 trillion in the business.... Our way of dealing with it is to come up with new products. So you've seen a collective fund that is designed for retirement accounts that actually qualifies and isn't diminished by the SEC regulations. We have a 45 or so basis point advantage over a comparable prime fund that has a 4 digit NAV, and we're seeing growth there.... And then [we have] a private fund which restores the same for other clients."
Regarding the adoption of new alternatives and potential return to Prime, he tells us, "What the clients are doing basically is looking to see what happens. Spreads are at a level which I think is attractive enough to move the money. The clients are looking at it and saying, 'Okay, how much change in the NAV is really gonna happen?' and they don't just do that for a day, a week, or a month. They're looking at it to see when they can make the move."
Donahue commented, "The next thing they have to do is make sure that their systems are able to accommodate the 4 digits and they have to get over the hump of the potential fees and gates in order to get back into Prime. Where that will occur, I don't know exactly. But we think it is going to come. And the reason is that [is a] 40-50 basis point spread.... Back in the old days, the spreads were 15 basis points between Prime and Govt.... One of the other things that ... is going on [is] an effort primarily supported by a coalition of municipal issuers [that could] get [the $1.00 NAV] restored. In this era of regulations, perhaps that has a good chance of happening."
When asked about competitive dynamics, he answered, "I've never felt [it's been] benign.... [Change is] just a constant thing. Don't forget ... there were 200 people offering funds before 2007. Now if you look at the list, there are 50 or 60, and only 20 of them matter. Only 10 are competitors with institutional clients. You have people who want to divide up how they view their cash in any event."
On rising rates, Donahue said, "Yes, it makes the money fund a more attractive place because you actually get paid to keep your cash there and ... the banks aren't bidding up for the deposits. So ... that is less of a competitive pressure. Therefore, we see growth in this business coming. When exactly and how exactly I don't know. Those competitive pressures you talk about are going to be there, and we're looking at them all the time. I can't give you a chapter and verse answers of what everybody will do. But I am confident in our position as a long term player and defender of clients."
Finally, he told the Citi event, "There are price pressures here.... When it all moved to Govies that increased pricing pressure. [I]t caused some people to go into separate accounts, which of course is a way to negotiate the fee lower. But in effect a separate account is simply a redemption timed in advance, because you already own the whole portfolio. So you see those kinds of dynamics.... So we continue to do it with enthusiasm. We think they'll be plenty of basis points [but] I can't say [what the] number is.... So you got to continue to work it, and that's what we're doing."
