J.P. Morgan Securities published a brief entitled, "What if prime MMFs went away? Implications of further MMF reforms." They write, "Prospects of additional reforms for the US money fund industry sharply intensified over the past month. Most prominently, Fed Vice Chair of Supervision Quarles spoke on three separate occasions, highlighting the role MMFs played in exacerbating some of the strains the short-term funding markets experienced in March. There was also a virtual SEC roundtable that discussed the interconnectedness and risk in US credit markets, emphasizing similar vulnerabilities they found in MMFs earlier this year. Comments made by Deputy Secretary of Treasury Muzinich and Dalia Blass, the director of the SEC Division of Investment Management ... also suggested on the need for further MMF reforms." (See our Crane Data News, "BlackRock's Novick, AMF's Cazenave Talk Runs, Regs at SEC Roundtable (10/20)," "SEC Covid Shock Study: Frozen CP Market, MMFs & Short-Term Funding (10/14)," "SEC's Blass on Push for More MMF Reforms; Vanguard Liquidating PA, NJ (9/28)" and "Fed's Quarles Examining Vulnerabilities (10/19).")
The piece continues, "Not surprisingly, the series of remarks have raised numerous questions from market participants on just what potential impact MMF reforms could have on the short-term funding markets and whether we could see more sponsors exit this business. Already, three fund sponsors have decided to shutter some of their prime funds: in the case of Northern Trust and Fidelity, they closed their prime institutional funds, while Vanguard closed its prime retail fund. Together, they held about $140bn."
JPM writes, "At this point, it's still too early to know what kind of reforms might emerge. A long-running criticism of MMFs is that they have deposit-like shares subject to daily redemptions, backed by less liquid assets. A rule requiring prime funds to hold some form of capital and/or significantly higher liquidity buffers would ensure that prime funds would become even more bank-like, though of course the risk profile of a prime fund differs dramatically from that of a bank. Alternatively, regulators may pursue a lighter regulatory approach and amend/enhance current liquidity requirements."
They tell us, "One of the panelists (from BlackRock) at the SEC roundtable for example suggested decoupling the 30% weekly liquidity assets requirements from the board decision to impose fees and/or gates. This is often cited as one of the reasons why a 'run' on MMFs occurred in March, as shareholders rapidly redeemed in fear of that bright line being crossed and their cash being locked up.... Another suggestion was implementing some sort of countercyclical liquidity that could deal with what we saw in March."
The article explains, "Whatever the path regulators pursue, it's worth noting that all of this will take time and money to implement. The 2014 MMF reforms, for example, took at least two years for the SEC to finalize the rulemaking and then another two years before it went into effect. Arguably, the timeline could be shortened if the outcome of the US elections brings about a government that is focused on reforming the industry. If such an outcome were to occur, we suspect this is another factor sponsors would have to consider when deciding whether to maintain or shutter their prime funds."
Authors Alex Roever, Teresa Ho and Ryan Lessing summarize, "In light of all this, we think there are 3 main takeaways for the short-term markets: Prime funds face an uphill battle; Short-term funding will remain available for banks and corporates; and Market liquidity risk is much bigger than the prime MMFs."
They tell us, "We suspect some sponsors are currently re-evaluating the value proposition of having prime funds in their suite of cash management offerings. If our assessment of the industry is right, we believe smaller prime providers and those that are more retail focused will be more vulnerable to consolidation and changes.... This is particularly true for fund families that already have decent size businesses running government money funds, bank deposits, and/or other credit cash management vehicles. Why expose the firm to liquidity risks, credit risks, regulatory risks, and perhaps more importantly, reputational risks when other similar alternatives are available that bear less risks and potentially could offer higher fees/earnings? ... On the other hand, we believe large prime providers (in AUM and as a percentage of their MMF business) and those that are more focused on institutional clients will try to hang on."
Finally, a section subtitled, "Funding will remain available for banks and corporates," explains, "Second, the CP/CD funding markets will evolve and survive, with the ability to continue to provide financing to Yankee banks, US banks, and corporates. Prime funds are not the sole providers of credit in the money markets. In fact, since 2007, prime MMF's ownership share of the CP market has declined from 38% in 2007 to 22% today.... The decline was in part driven by 2016 MMF reforms, which prompted over $1tn of cash to exit prime MMFs. But perhaps more notably, the decline seems to have been driven by a significant increase in CP participation among corporations, from 4% to 23% over the same time period.... There are other participants in the CP market too: 'other financial businesses', which we believe includes securities lenders and hedge funds, mutual funds which we suspect are focused on the ultra-short or short-term part of the curve, pension and retirement funds and state and local governments, as well as others.... Even if prime funds shrink, we think this leaves the door open for other credit liquidity investors to step in and absorb some of that lost capacity, just like they did in 4Q16 when MMF reform took hold."
It adds, "Perhaps more importantly, if more sponsors do decide to exit prime, we believe this money will be re-directed to government MMFs on one end and to ultrashort/short-term bond funds/SMAs on the other, assuming it does not flow to the remaining prime providers. Over the past decade, institutional liquidity has had to evolve to better reflect the balance of liquidity and yield. This is in large part due to the MMF reforms in 2016 which fundamentally changed prime funds' value as a cash management vehicle. As a result, corporates have found a need to better segment their cash. More often than not, this means balancing the use of government MMFs for liquidity and ultra-short/short-term bond funds, which we use as a proxy for SMAs, for yield."
In other news, money market fund assets fell yet again in the latest week, their eleventh decline in a row and 19th decline over the past 21 weeks. Assets have fallen $433 billion since May 20, when they were at a record $4.789 trillion. ICI's latest weekly "Money Market Fund Assets" report says, "Total money market fund assets decreased by $7.59 billion to $4.36 trillion for the week ended Wednesday, October 21.... Among taxable money market funds, government funds decreased by $2.53 billion and prime funds decreased by $3.73 billion. Tax-exempt money market funds decreased by $1.32 billion." ICI's stats show Institutional MMFs falling $10.2 billion and Retail MMFs increasing $2.6 billion. Total Government MMF assets, including Treasury funds, were $3.649 trillion (83.8% of all money funds), while Total Prime MMFs were $594.8 billion (13.6%). Tax Exempt MMFs totaled $112.0 billion (2.6%). (Note that ICI's asset totals don't include a number of funds tracked by the SEC and Crane Data.)
ICI shows money fund assets up a still massive $724 billion, or 19.9%, year-to-date in 2020, with Inst MMFs up $562 billion (24.9%) and Retail MMFs up $161 billion (11.8%). Over the past 52 weeks, ICI's money fund asset series has increased by $870 billion, or 25.7%, with Retail MMFs rising by $194 billion (15.0%) and Inst MMFs rising by $676 billion (32.3%). (Crane Data's separate and broader Money Fund Intelligence Daily data series shows total MF assets are down $52.0 billion in October (as of 10/21) to $4.726 trillion.)
They explain, "Assets of retail money market funds increased by $2.58 billion to $1.53 trillion. Among retail funds, government money market fund assets increased by $5.23 billion to $1.13 trillion, prime money market fund assets decreased by $1.83 billion to $301.55 billion, and tax-exempt fund assets decreased by $820 million to $101.46 billion." Retail assets account for just over a third of total assets, or 35.2%, and Government Retail assets make up 73.7% of all Retail MMFs.
ICI adds, "Assets of institutional money market funds decreased by $10.17 billion to $2.82 trillion. Among institutional funds, government money market fund assets decreased by $7.76 billion to $2.52 trillion, prime money market fund assets decreased by $1.90 billion to $293.29 billion, and tax-exempt fund assets decreased by $503 million to $10.59 billion." Institutional assets, which broke below the $3.0 trillion level for the first time since April 22 at the end of August, accounted for 64.8% of all MMF assets, with Government Institutional assets making up 89.2% of all Institutional MMF totals.
