U.K. publisher Euromoney hosted a webinar earlier this week entitled, "Money Markets into 2021: The Fed vs money markets," which was sponsored by Calastone. The session featured J.P. Morgan Asset Management's Paul Przybylski, Fitch Ratings' Alastair Sewell, T. Rowe Price's Doug Spratley and Calastone's Ed Lopez, and reviewed the impact of the coronavirus crisis on European and U.S. money market funds. Lopez says, "I think from my perspective, what we saw this year was the acceleration of automation plans. Everyone was looking to automate and build efficiencies around the investment process, but particularly with the volatility in this space and the movements that happened dating back to March. The plans to automate have really accelerated in the space … whether it's the use of portals or tighter integration, it's really just trying to eliminate the manual process."
Sewell comments, "The challenging combination of outflows and severe secondary market illiquidity combined caused an almost perfect storm for money market funds.... With where we are now, now that volatility has passed, funds are looking at an era of ultra low and possibly negative rates. So, the key question for the money fund community is, 'How long that conservative positioning is going to remain and to what extent funds are they going to start pushing out to try and gain a little bit of incremental yield in this low to negative environment?'"
He also states, "Corporates ... pulling their money out of money market funds ... to shore up cash buffers or whatever was needed ... led to a very big outflow from the prime, or the LVNAV as they call them in Europe, money market funds, with money being moved into Treasury or government money market funds.... [There was] a very pronounced divergence of flows out of prime and into government funds. But that stress was acute and it was mainly driven by corporate investors who needed that money for another purpose, or needed incrementally greater safety on that money in the wake of the covid outbreak."
Przybylski adds, "I think what we saw is that at times of uncertainty money market fund investors redeem in order to shore up liquidity. I mean, money market funds in general, from an investor standpoint, are very much a herd mentality driven product. [I]f one moves, they all begin to move. And given the fact of the uncertainty around the markets in March ... this wasn't a liquidity event specifically related to money market funds. However, it was an event across all asset classes."
On the March Madness, Spratley tells us, "We had our event; the event is over. The event actually was really based on a 30% rule that was being tested at the time because of the quickness in which the covid pressure hit.... If you could have just fast-forwarded a week in the last event, you probably wouldn't have needed a program. It's just a case of all people fleeing for the exit at the same time.... People have built up their buffers again. `Institutions have already moved to a more liquid posture for themselves, the corporates are sitting on more cash, they've raised their money.... I do not look at liquidity as an issue now, nor going into year-end, nor in the future. It was a one-off event and it's done."
Fitch's Sewell explains, "As a credit analyst I'm trained to see the downside in all cases. I wouldn't go so far as to say that the danger is over. [W]hen we look at the funds, the outflows in March in prime ... they were severe, and liquidity was pressing. But ... assets are flowing back into funds, funds have restored or increased their weekly liquidity buckets and they are conservatively positioned. That being said, we here in the U.K., we are well into a second wave of the pandemic. It remains uncertain how severe the impacts will be on the real economy and what's going to happen as we progress through the rest of the year…. So, the credit analyst in me tells me to look for risks, and there are certainly an abundance of risks remaining on the horizon."
He also states, "The last point that I'll make on this is we are coming up to the end of the year as well. And there is an element to seasonality in money market funds. So, you tend to see outflows at month, quarter and year end periods, and then inflows at the beginning of the next period. This interestingly was one of the issues in March, the covid event broke when you would be anticipating a seasonal outflow from money market funds.... So, there are still plenty of risks throughout. I would take a more conservative view, but the funds are certainly more conservatively positioned."
When asked about negative rates, Przybylski responds, "It's a conversation we're having a lot with our clients today.... We do see it as a low [probability].... However, we always are put in to be prepared versus not. We have the experience, obviously running Euro negative yielding products, so we have the systems and the know-how. However, to apply to the U.S. market we'll have to live with a new structure.... [For] the U.S. market ... the answer is it could be a floating government fund ... or it could be a fund or government fund with an RDM mechanism if it's approved by the SEC and the regulators here. [T]hose conversations are obviously ongoing for us with our regulators. `But I do see value in an RDM structure where a client does have amortized cost and intraday liquidity, whereas, if they're in the floating product, the liquidity obviously would be limited to the NAV's strikes per day."
Spratley comments, "I agree with Paul, the market really shouldn't go this way. It would need a Fed to push rates lower and to get rid of some of its core programs like the Fed RRP at zero. Similarly, it would need the Treasury to get rid of their new issue auction, low bid or low rate being at zero. You can't have a Treasury security issued through zero. Those are structural issues. And those really need the Fed and Treasury making a conscious effort to say, 'We have to go negative here.' ... Everything they've said up to this point is really contrary to that, in that it's not part of their toolkit, it's not one of their plans. But yes, we too are planning for the worst and hope for the best."
When asked about transparency, Lopez says, "As far as real time information around trading and positions and cash settlement, etc., we're absolutely seeing that the counterparties involved are able to provide that in a more real time basis.... It's still out there. There are still some manual processes out there that we have to deal with ... but it's becoming less because of the demands of the investor. [On the] question of transparency on underlying holdings, there's still work to be done.... There's information that is available. The funds provide them at a certain frequency, in a certain format, etc. There are some consolidators out there, but it's not as real time as it needs to be."
On potential regulatory changes, Przybylski tells us, "I think obviously with what happened in March, regulators are going to take a look at the money market fund sector, along with other sectors in the global markets. We do have a level of expectation that at some point there will be a further review of the credit space and the rules governing that, both across the U.S. and European markets. I think regulation is in order at some point down the road. Whether that's in 2021, probably not. But somewhere in the next five years, we should expect a change.... Broadly speaking, from a structure perspective of the products, I think they are just as sound as they have been, if not even more, because they're running a lot more with higher liquidity."
As far as clients, Spratley says, "It sounds basic, but essentially, they have to look forward to one basis point returns for the foreseeable future. That's a daunting ask of them to say, 'Do you want to sit in an asset class that can't beat inflation for a very long period of time?' With the Fed's flexible inflation targeting ... it really puts a very unknown and very long-time frame on this low rate environment. So that's the challenge for us to provide value, essentially, and for the investor to want to be there. I agree with Paul, the assets will go out and they're going to find another home.... Everybody's going to promote a solutions product, and to the points we made earlier today about taking some non-operational cash and putting that in a strategic place."
Sewell adds, "Regulators from around the world have made overt statements about potential changes to money market fund regulation, or at least re-reviewing the money market fund regulations. So that is something which is very clearly on the agenda and could have significant ramifications for short term markets. Then the second point I'd make ... is that we remain in a volatile and challenging time. We have the U.S. election in a matter of days, we have Brexit, we have to continue to fight with covid-19. So significant uncertainty and significant risks remain in the market. And that combination of regulation and operating environment risks will make the situation challenging for money market fund providers."
Finally, Spratley says of the Fed support programs, "I think with covid, without a vaccine, without a very defined outcome of this, I don’t think that December expiration of any of the programs will go away. I think that’s going to get pushed out until we have something…. Although you could say that, obviously, if you get into the later stages of the covid … we don’t need these programs as much if you get rid of some of the risks of some of the unknowns from both an issuer side and an investor side. So, I think it'll be with us probably unutilized, but it'll be with us as an option just to ensure some stability in the market."
