Last week, Fitch Ratings, hosted webinar entitled, "LGIP and Public Sector Short-Term Markets Update," which followed the publication of their latest "Local Government Investment Pools: Q320" quarterly scorecard. The webinar featured Fitch's Greg Fayvilevich, JP Morgan's Ron Flynn and PFM's Marty Margolis, and topics included the differences between LGIPs and MMFs, the huge jump in LGIP assets and a number of other issues. The "Local Government Investment Pools" publication explains, "Fitch Ratings' two local government investment pool (LGIP) indices experienced asset declines during the third quarter (3Q20), in line with the usual seasonal slowdown in tax collections during the summer months. However, the decline in assets was relatively muted in 3Q20compared to the third quarter in prior years, possibly attributable to the funding provided by the CARES Act and an increase in municipal debt issuances. Over the past three years, the average third-quarter decline in assets was approximately 3.8% for both indices combined, materially larger than the 0.2% decline in 3Q20." (Note: Thanks again to those who attended our Money Fund Wisdom Demo & Training last week! For those that missed it, see the replay here, and download the Powerpoint from our Webinar page here.)
The dashboard continues, "The downward trend in net yields continued through the third quarter, although at a slower pace than during the first half of the year. Both Fitch LGIP indices ended 3Q20 with the lowest average net yields since Fitch started compiling the data in 2016, as pool managers were forced to reinvest maturing securities at lower yields. The Fitch Liquidity LGIP Index ended the period with an average net yield of 0.16% (down from 2.09% in September 2019). The Fitch Short-Term LGIP Index ended the period with an average net yield of 0.88% (compared with 2.21% in September 2019)."
It explains, "To mitigate the downward trend in yields, managers continued investing slightly farther out the maturity curve. The weighted average maturity (WAM) of the Fitch Liquidity LGIP Index increased to 45 days (up one day from last quarter and still higher than money funds at 41 days) and the duration of the Fitch Short-Term LGIP Index ticked up higher to 1.29 years (up from 1.28 years at the end of 2Q20). Both metrics have increased in each of the past four quarters as yields have fallen."
Fitch's update adds, "Thus far, Fitch-rated LGIPs have navigated through this economic downturn relatively unscathed, with no material unexpected redemptions or significant credit deterioration. However, given remaining economic and market uncertainty, LGIPs continue to maintain elevated levels of liquidity."
During the webinar, Fayvilevich begins, "The Liquidity LGIPs, which are a bit like prime money funds ... follow pretty much all of the money fund rules around liquidity and WAM and WAL and those kinds of metrics. They do not have to have a floating NAV; in fact, they have stable NAVs, and no fees and gates. Those are kind of the big differences and I think one of the draws for these products for those that can invest in them. "
He continues, "The other type of LGIP that we have is what we call the Short Term LGIP. Those are more like short term bond funds. There's quite a bit of variation there, some are very short, some can go longer.... They can invest in three-to-five-year ABS, they tend to buy more, longer dated securities. On the credit quality side, they tend to remain higher quality."
Fayvilevich explains, "We've been tracking these indexes or these assets over the last couple of years.... You can see clear growth in both indices.... [On a] combined basis, we are currently tracking $348 billion in AUM as of September. That's up $67 billion over the last year.... So, that's about a 24% increase this year, or the last 12 months. That's actually significantly higher than the prior two years. Between September 2018 and September 2019, these assets grew $34 billion, or 14%, and it was the same 14% growth the prior year from September 2017 to September 2018, about $30 billion. So, this year is almost double the growth rate of prior years."
He comments, "LGIPs typically have a little bit more flexibility in terms of liquidity relative to money funds because their asset flows are more seasonal and more predictable. They tend to not have the same kind of surprises and big redemptions as money funds do, as we've seen earlier this year in the money fund space."
On asset allocation, Fayvilevich says, "The last thing I want to mention is the asset allocations .... Liquidity LGIPs ... between June and September, we've seen a decline in the 'Other' category ... primarily ... money market funds and bank deposits. Earlier this year with the volatility, we saw a big increase in that category with LGIPs keeping money in bank deposits and government money funds for safety. Now we're seeing some decreases in that category and that money has been going into Treasuries and to CDs, so it has come back into credit instruments. For Short Term LGIPs, similarly we've seen a decrease in the Other category, again bank deposits and money funds, and some increases in Government Agencies, generally longer durations hitting the trends that we've discussed."
Discussing the "drivers of growth," PFM's Margolis comments, "The trends that Greg described are certainly trends that we've seen in our LGIP business around the country. I would say we saw growth in the past couple of years of 10 or 15%. As Greg described, we've seen growth just this calendar year, I would say, of 20 to 40%. The growth has had some pattern, and it's had some staying power. I think both the pattern and the staying power are kind of interesting. It's been across both the credit and government flavors, if you will, in the liquid space. And in some respects, it's been contrary to the experience [of] institutional money market funds, which led the Fed to step into the marketplace here in March."
He continues, "[If] you try to interpret the growth that we've had this year, I would say there are maybe three factors. In February and March, I think there was an unmistakable flight to quality and safety, and actually, LGIPs stand up really well to those concerns. I've been around this business a long time and we had the same experience, which was unexpected, in 2008 and 2009. When the markets froze up and investors got worried, they didn't take money out of LGIPs, for the most part they put money into LGIPs. And we saw the same thing early this spring up."
Margolis adds, "I think the second thing was the heightened concern and focus on liquidity.... You can trace that back to market uncertainty in the spring. You can draw lines to the CARES Act, which we know provided billions of dollars to state and local governments that needed a temporary place to be invested with not a lot of certainty as to the cash flow drawdown requirements. And I know in our LGIPs, we saw ample deposits of money that we know to be CARES money for that reason.... And I think the work from home environment has put extra burdens on public funds managers. It's created challenges. And, LGIPs are ... I think one of the less challenging ways [operationally], to invest money, so we've benefited from that."
Lastly, he explains, "The third thing I would cite is the rate environment. We all know that LGIP rates lag the market. And while we all say we're sophisticated, the truth of the matter is that for many public funds investors, particularly smaller ones that are in the market periodically, the yields that were posted on LGIPs through the late spring and summer and into the fall look on their face to be very attractive.... As I say, they lag the market on the way down the creek, they lag the market on the way up. There was some benefit that we received from that. And I think there was some benefit from the fact that banks are much less competitive, equally for high-cost public funds deposits."
Finally, see the press release, "Fitch Rates Georgia Fund 1 Local Government Investment Pool 'AAAf'/'S1'," which says, "Fitch Ratings has assigned a 'AAAf' International Fund Credit Quality Rating (FCQR) and a 'S1' Fund Market Risk Sensitivity Rating (MRSR) to Georgia Fund 1, a local government investment pool managed by the Ofce of the State Treasurer (OST) of Georgia. As of Nov. 30, 2020, the pool had approximately $22.6 billion in invested securities."
