A week ago, we hosted "Crane's Money Fund Webinar: Portfolio Manager Perspectives," which featured Federated Hermes' Sue Hill, Northern Trust Asset Management's Peter Yi and UBS Asset Management's David Walczak. The three senior PMs discuss fee waivers, negative yields and the outlook for future regulatory changes, among other things. We quoted from Part I of the webinar on Monday, and we excerpt from the second half of the webinar below. (Click here to access the recording, click here to see our Webinar page and watch for details and register for our next event, "Crane's Money Fund Webinar: Mini Fund Symposium, which will take place August 26, 2020, 1-4pm EDT.)
When asked about fee waivers, UBS's Walczak says, "We've already started to see some funds begin to waive fees. We haven't gone down that road with some of our larger funds yet at this stage. I think, again, we can go back to our experience after the Great Financial Crisis, when we saw the Fed kind of in the current interest rate regime that they're in now. We definitely saw the industry kind of go down that that path. And I think we're likely to see that again going forward. I think as we saw the assets come in, I think it's just a tremendous amount of AUM that certainly funds want to hang on to."
He continues, "I think the question is, 'If the Fed were to go into a negative interest rate environment what does that mean for fees?' So that's something that we're grappling with as well. It's not our base case. I don't think many have the base case that the Fed is going to go negative. But then that also opens up the question, 'Mechanically, how does a Government/Treasury fund that currently trades with a CNAV operate in that environment?' I know the industry and we ourselves internally at UBS, have been begun discussions around how to best facilitate that product in that environment."
Hill comments, "Federated is fully behind prime money market funds.... So fee waivers are a reality, unfortunately, in the environment that we're in, or at least heading into. That zero to 25 basis points takes a toll eventually. We've been here before, so we kind of know how it unfolds. We know that zero to 25 for an extended period of time will eventually bring fee waivers.... The institutional products for the most part have remained sheltered. It's been beneficial to have the volume of Treasury supply in place; it's also been beneficial to have the Fed move to more of a backstop role in their temporary market operations to allow repo to trade a little bit higher than it was. And that's staved off waivers for a period of time, and hopefully for an extended period of time."
She adds, "I'm a believer in the Government money fund product, a firm believer in the role that we play in the market, both in the repo market and now the need to support the Treasury market. So, a move into fee waivers that are profound, I think works against what we're trying to accomplish as an asset manager, and it also works against what the Fed is trying to accomplish from the perspective of market stability. So [we're] tiptoeing towards institutional waivers, but not there yet. And again, with a little bit of hope that that's something that's down the road."
Northern's Yi comments, "We have a pretty strong conviction around our base case that the Fed doesn't take its policy rate negative, given that it was pretty ineffective as an approach in Europe and Japan. But I will make the distinction, it is possible that the market takes rates on things like Treasury bills, negative. But, a lot of that concern has been alleviated lately just because of the enormous T-bill supply that used to finance the various stimulus bills. I'll be honest, it's still a little bit baffling that there is so much attention surrounding the possibility for the Fed to take its policy rate negative.... I think the consequences of taking rates negative will just create all kinds of operational complexities for things like, bank deposits and, of course, could present an enormous challenge for the $4.7 trillion dollar money market mutual fund industry.... It could create disruption that really could potentially destabilize the financial system. So, looking at it through that lens our view is the risks just simply outweigh the unproven benefits."
He explains, "A lot of structures, like the RDM or simply just moving funds to a variable NAV, those are things that Europe has been dealing with for a while now.... For our euro-denominated offshore money funds, we went through this a few years ago and the industry kind of went down the path of the RDM. Now that European money market reform has been finalized, they're actually prohibited over there. Northern Trust, in the early days, we actually never went through the RDM. We actually just took our Euro Fund as a variable NAV product, and we thought that was the most transparent structure.... Our view is, a variable NAV is a preferred path relative to something like the RDM that is a little more complex and does have a little more challenge for the SEC or the IRS."
When asked what he's buying, Walczak answers, "So obviously, if it came in to the Prime space, we'd want to ensure that our weekly liquidity is at our target. After that was satisfied, I think we'd look a little bit further out the curve to see what attractive opportunities there are. I think we have seen the market pivot a little bit to floaters recently. I think immediately after the events in March, we definitely did see a preference for fixed rate paper, which isn't too surprising given expectations on the direction of travel for rates. But I think as we've gotten to such low levels of rates and given the flat curve, I think investors have looked to floaters a little bit more recently. So, I think we'd look for potentially some opportunities there, again a little bit further out the curve."
Hill tells us, "The behavior of Government money funds over the last couple of months has been a little atypical because cash was coming in droves. But Treasury was issuing at the same time and issuing every day and in rapid fire fashion. So, we did a lot of buying of short bill maturities, which is not a typical structure for a portfolio that would normally have repo. Normally it would be much more a barbell kind of structure with a lot of repo up front and then longer-term purchases out there. I'm hoping we're starting to shift a little bit. We've been all Treasuries all the time. I am hoping that we have other opportunities to buy agency paper."
She states, "We certainly have seen strong issuance of SOFR based floaters in the GSE space, for which we're grateful. Have seen not a whole lot of Libor, nor do I expect our to. That transition apparently seems to be pretty firmly on track. We also have found some value, or continued to find outlets for money coming in the repo market.... The FICC sponsored repo program, continues to be a core part of our overall repo strategy, and I don't expect that to change. So, hopefully [we'll see] a little bit more than just Treasuries now, hopefully a little bit more of a broader base kind of approach in a very low, very flat yield curve type of environment."
Yi says, "The comments that Dave and Sue made are pretty consistent with how we're thinking about things. Our industry does have a little bit of a tendency to have a herd mentality. I'll offer up that just because of the supply technicals in Treasuries right now, and there is some yield albeit low, you can get a little bit of yield with that modest slope out to a year. If it weren't for all that supply though, I think it's very likely that the front end of the T-bill curve would be zero or possibly negative. And that still may happen as the Treasury broadens out its issuance to longer tenders or temporarily pays down some of its T-bill outstanding from things like the personal and corporate tax days."
He tells the webinar, "We think that that does kind of present good opportunities for us. I can't disagree with Dave or Sue in terms of repo right now. You know, normally we'd probably see it closer to zero, but it seems to be elevated in the context of maybe 10 basis points. And so, for us, we feel like that's just a great place to be managing our liquidity. And, we're expecting that to, over time, actually kind of drift a little bit lower. Those are kind of what we're buying."
Yi also comments, "When we're thinking about the experience that we had in March, as well as really just history, having those very liquid, high quality U.S. Treasuries and GSE debt even in our credit portfolios, our Prime portfolios, they're there to be a buffer to have more liquidity.... I do think there's going to be a lot of decompression and that could be a catalyst for potentially assets going out of Prime credit funds and into Government funds. We're being, you know, incredibly cautious and really focusing on securities that we feel are going to be pretty liquid in the marketplace."
He adds, "Without a doubt, after the Fed introduced the Money Market Liquidity Facility, secondary trading and liquidity really opened up. Right now, I would describe secondary liquidity for credit instruments to be pretty strong. But we know that can change. The liquidity facility from the Fed is right now is scheduled to expire in September [note: it just got extended to Dec.]. While, it really hasn't been used, all of those assets are just maturing on the Fed's balance sheet, all the securities that they purchased. So that part of the balance sheet just is getting closer and closer to zero.... Feels like it's more of a backstop facility right now, and it may not be needed after September. So, we'll see."
Finally, Walczak tells us about potential reforms, "It's definitely become part of the conversation, and not too surprising just given the experience of, in particular Prime funds, during the March period. People can kind of hone in on the weekly liquidity.... Fund providers [are] looking to ensure that they, even in the face of substantial outflows, maintained above 30 percent liquidity. So, if there's an area of potential reform, maybe that could ... take the form of additional liquidity required? Is there some sort of decoupling of that weekly liquidity limit from the option to impose fees and gates by the board? You know, that could be something that potentially regulators hone in on, but it's still a little bit early. So, we're waiting and seeing the views and thoughts coming out of regulators."
He adds, "I think it's in about two years, the European regulations are slated to come up for review. So potentially that could be one area where we do see some further reforms coming down the pike. So, yeah, we're kind of guarded in that, but wouldn't be surprised to see some more chatter increase going forward again."
