The Securities & Exchange Commission published, "Primer: Money Market Funds and the Commercial Paper Market," earlier this week, which reviews commercial paper, money market funds and the events of March 2020. Authored by Viktoria Baklanova, Isaac Kuznits and Trevor Tatum, the paper explains, "Commercial paper (CP) is unsecured, short-term debt issued for a specified amount to be paid at a specified date. CPs are issued at a discount, with minimum denominations of $100,000 and terms normally ranging from 1 to 270 days. Total U.S. CP outstanding was at $1,007 billion at the end of June 2020, down by $37 billion since the end of 2019.... This is around one half of $2.2 trillion, the all-time high in CP outstanding reached in July 2007."

It tells us, "The majority of the decline in CP outstanding since the financial crisis can be attributed to reduction in the asset-backed commercial paper (ABCP) issuance. As of June 2020, ABCP outstanding were at $214 billion accounting for 21% of the total CP outstanding.... CP issued by U.S. financial firms were at $189 billion (or 19% of the total); CP issued by nonfinancial firms were at $166 billion (or 17% of the total); and non-U.S. financial and other firms were at $438 billion (or 43% of the total)."

The piece continues, "Many types of institutional investors participate in the CP market, including investment companies, retirement accounts, state and local governments, financial and nonfinancial firms. As of June 2020, nonfinancial firms were the largest investors accounting for 25% of the total CP market followed by money market funds (MMFs) at 22%.... Investments by financial firms were at 19% of the total. Other large CP investors are mutual funds (ex-MMFs) at 10%, state and local governments at 7% and pension accounts at 5%. The 'Others' category includes smaller CP investors that collectively account for around 13% of the total CP outstanding."

It states, "The investor base in the CP market has changed over time. For example, MMFs used to account for a substantially larger share of the CP market at close to 47% in September 2001. Over the last 20 years, MMF participation in the CP market has declined markedly. One reason for the decline is that assets under management in government MMFs, which do not invest in the CP market, have grown.... Assets in prime MMFs have declined resulting in lower demand for CP from MMFs. On the other hand, CP investments of nonfinancial corporations have increased almost six-fold since 2000 to $250 billion in June 2020 (or 25% of the total CP market) from $46 billion in March 2000 (or 3% of the total CP market)."

On the market freeze, the authors explain, "In mid-March 2020, CP rates increased, which is normally associated with a lack of investor demand.... However, the broad scope of market developments at the onset of the COVID-19 pandemic complicates the attribution analysis. Corporate investors in the CP market may have reduced their allocations in anticipation of reduction in revenues. MMFs and mutual funds may have decreased their CP investments in anticipation of investor redemptions. Available data show that prime MMFs and short-term and ultra-short corporate bond mutual funds experienced significant outflows in March.... Prime MMFs lost around 11% of their net assets in March. Similarly, short-term and ultra-short bond mutual funds lost around 10% of their assets."

They add, "At the same time, some CP issuers may have turned to the CP market to bridge their funding needs. Overall, the CP outstanding increased in the first quarter of 2020 by $44 billion, despite the spike in the CP rates. During the second quarter, CP issuers had fewer immediate borrowing needs amidst reduced economic activity and the CP outstanding declined by $82 billion."

The paper comments, "The Federal Reserve established the Money Market Mutual Fund Liquidity Facility (MMLF) on March 18, 2020, to broaden its program of support for the flow of credit to households and businesses. MMLF makes loans available to banks to finance assets purchased from prime and tax-exempt MMFs. MMLF started its operations on March 23 and initially intended to provide loans for purchases of CPs, but was extended to included purchases of certificates of deposit (CDs) and certain municipal securities. MMLF also enabled banks that purchased assets from affiliated MMFs to finance these purchases with loans from MMLF. In addition, since March, financial regulatory agencies have announced multiple emergency relief provisions for banks, advisers and funds. Following these actions, both market conditions and broader economic conditions in the U.S. appeared to improve."

Lastly, the authors tell us, "The outstanding amount of MMLF loans has been declining since April. The maximum MMLF utilization reached $51 billion in the first two weeks of April, or under 5% of the net assets in eligible MMFs. For context, lending by a similar Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility (AMLF) utilized in September 2008 reached about $150 billion in its first 10 days of operation, or around 7.5% of assets in prime MMFs at that time. As of September 30, 2020, the total amount of outstanding MMLF loans was around $7 billion; MMLF accrued revenues from interest and fees to the Federal Reserve were around $166 million. Initially MMLF was scheduled to stop providing new loans after September 30, 2020, but was recently extended by three months through December 31, 2020."

In related news, Bloomberg published the article, "Money-Fund Rules in Crosshairs Again As Boston Fed Takes Aim." They write, "The drumbeat for change to rules surrounding money-market mutual funds may be growing, with U.S. central bank official Eric Rosengren on Tuesday once again taking aim on the subject."

It explains, "Money funds 'failed again' during the coronavirus-related market upheaval that took place earlier in the year, and there needs to be a focus on reforming the rules that govern them, the Federal Reserve Bank of Boston president said Tuesday. He said it was prime funds -- those which are able to invest in non-government-backed instruments -- 'that were the problem' and that the situation surrounding money funds is 'quite disturbing.'"

Bloomberg's piece continues, "U.S. money-market funds -- which provide a lot of the cash that companies and governments borrow on a short-term basis -- underwent a major regulatory overhaul in 2016 to prevent a repeat of a damaging run on these funds that took place during the 2008 meltdown. But a coronavirus-related exodus of cash earlier this year from prime funds showed that this risk remains. That has some, including Rosengren, suggesting that further tweaks may be warranted."

They write, "The Fed official went further during an online event hosted by the Harvard Kennedy School on Tuesday, saying his 'personal preference would be not to have prime money funds' for either individual or institutional investors. Rosengren has been at the center of bailing out money markets since 2008 when the Boston Fed launched the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility, or AMLF, in the wake of the crisis that rocked the global economy that year. In March this year, the Boston Fed also spearheaded the Money Market Mutual Fund Liquidity Facility, or MMLF, a facility that offered a backstop for prime funds."

Finally, the article tells us, "Rosengren said the presidents of the regional Federal Reserve banks did not get the outcome they were hoping for in the wake of the 2008 crisis and that some of the measures put in place by the Securities and Exchange Commission actually encouraged investors to pull funds out more quickly. The actions taken made matters 'worse, not better,' he said. 'We need to really refocus on what assets are appropriate to have immediately accessible for individuals and really think about the regulatory construct a little more carefully this time.'"

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