Federated Hermes, the 5th largest manager of money market funds, released its Fourth Quarter Earnings last week and hosted its Q4'20 Earnings Call on Friday. The release explains, "Federated Hermes' money market assets were $420.3 billion at Dec. 31, 2020, up $24.8 billion or 6% from $395.5 billion at Dec. 31, 2019 and down $12.7 billion or 3% from $433.0 billion at Sept. 30, 2020. Money market mutual fund assets were $301.9 billion at Dec. 31, 2020, up $15.3 billion or 5% from $286.6 billion at Dec. 31, 2019 and down $24.0 billion or 7% from $325.9 billion at Sept. 30, 2020. Federated Hermes' money market separate account assets were $118.5 billion at Dec. 31, 2020, up $9.6 billion or 9% from $108.9 billion at Dec. 31, 2019 and up $11.5 billion or 11% from $107.0 billion at Sept. 30, 2020." We quote from the release and review the money fund-related highlights from the call below.
Federated continues, "Revenue increased $5.9 million or 2% primarily due to higher average money market, equity and fixed-income assets. Revenue also increased as a result of revenue from a previously nonconsolidated entity being recorded in operating income beginning March 2020 and an increase in performance fees. These increases in revenue were partially offset by voluntary fee waivers related to certain money market funds in order for those funds to maintain positive or zero net yields (voluntary yield-related fee waivers).... During Q4 2020, Federated Hermes derived 67% of its revenue from long-term assets (42% from equity assets, 15% from fixed income assets and 10% from alternative/private markets and multi-asset), 32% from money market assets, and 1% from sources other than managed assets. Operating expenses decreased $6.1 million or 2% primarily due to decreased distribution expenses primarily resulting from voluntary yield-related fee waivers."
The release states, "For Q4 2020 and full-year 2020, voluntary yield-related fee waivers totaled $56.1 million and $113.0 million, respectively. These fee waivers were largely offset by related reductions in distribution expenses of $47.4 million and $98.4 million, respectively, such that the net negative pre-tax impact to Federated Hermes was $8.7 million and $14.6 million, respectively."
President & CEO Chris Donahue comments, "Moving to the Money Market. The fourth quarter asset decrease reflected lower fund assets of about $24 billion, partially offset by higher separate account assets of about $12 billion. Year-end money fund assets were down about $43 billion from mid-2020 peak and up about $15 billion from the prior year. As we have experienced in past cycles, our money market business has reached higher highs and higher lows once again. Our money market mutual fund share, including sub-advised funds at quarter-end, was at about 7.8%, down from the prior quarter share of 8.1%. Taking a look now at recent asset totals: Managed assets were approximately $621 billion, including $416 billion in Money Markets, $95 billion in equities, $87 billion in fixed income, $19 billion in alternative and $4 billion in multi-asset. Money Market Mutual Fund assets were $290 billion."
CFO Tom Donahue adds, "Total revenue for the quarter was about the same as in the prior quarter, as growth in revenue related to long-term assets, including equity, fixed income, private markets, and performance fees and carried interest was offset by higher money market fund waivers and the impact of lower money market assets, again showing our significant value of our diversified business mix.... The decrease in distribution expense compared to the prior quarter was due mainly to the impact of minimum yield waivers and lower money market assets, which reduced distribution expense by about $15 million. This was partially offset by the impact of higher equity assets."
During the Q&A, MM CIO Debbie Cunningham was asked about repo, or repurchase agreements. She responds, "With regard to rates and what is driving the repo market to those lower rates, we're currently in somewhere of a 3 basis points to 7 basis point range, [and] hit as low as 2 basis points ... earlier this week. In some late afternoon, thin markets, [at] various times last week was actually trading negative. Now we didn't participate in any of that.... [It was] again, very thin and [a] small portion, two way flow. But nonetheless, it was in negative territory. [It was] driven by a couple things: number one, mainly just huge amounts of cash that needs to be put to work in the short end. And thankfully, we do have a fairly good supply of Treasury and mortgage-backed securities. However, [this] hasn't grown much."
She says, "As far as allocations go with our money market and liquidity products to repo, obviously, the largest amounts would be in our Treasury and our government agency funds. We attempt to do term repo and other types of non-overnight securities in order to reduce our exposure to that overnight marketplace, where going out the curve a little bit with different security types, you can get a little bit more in yield, although not a whole lot. I mean, the whole Treasury yield curve at this point is basically 5 basis points to 9 basis points from one month out to one year."
Cunningham adds, "But ... we still have repo positions for liquidity purposes in those funds, that are anywhere from 40 to 55-ish type percent, and when you look at our other types of products, our prime products, in particular, that would also be using repo in the taxable liquidity world. The exposure there is actually very small, less than 10%. They use other types of overnight paper that has generally [a higher] rate perspective, overnight ... paper, overnight CDs, other types along those lines."
When asked about future regulations, Chris Donahue responds, "So on the regulation front, we've all seen the President's Working Group Report, and that was basically the SEC throwing out everything that they had in their drawer on the subject -- many of which had been totally rejected before, all of which we have seen before. The most important one is, as I've discussed on this call before, the elimination of that 30% [WLA] trigger, which is both unnecessary and unwise. And we pointed that out before and was really an artificial trigger to what was a government shutdown causing disruptions in the short-term markets."
He tells us, "We don't know what will happen under the new regime in Washington, and they're just getting started, so it's hard to predict. But we are ready with our friends in Congress and with all of the arguments we've had before. Because the money market fund, especially on the tax free side, is especially relevant when there are tremendous efforts to get money to municipalities as part of stimulus appropriations of the pandemic. This is a great financing vehicle, and you could return $500 billion of marketplace-oriented short-term cash into that short-term market by the beauty of those money market funds, to say nothing of what happened on the prime side."
Cunningham comments, "As far as our total prime assets go right now, they're about $125 billion [including] $53 billion or so in ... other types of separate accounts, offshore, LGIP-type of assets. As far as allocation within those products to sectors of the prime market, the largest sectors remain with exposure to the asset-backed commercial paper world, the CD world and then other types of financial commercial paper. We also have some exposure in the non-traditional repo market, which ... doesn't really have the same issues associated with it, as ... traditional Treasury and agency repo. Then, ABS exposure, but in the shortest tranches and a very tiny exposure."
She adds, "As far as just to add to what Chris was talking about from a regulatory perspective, we've seen the ICI come out with what we thought was a very comprehensive piece that covered the money market, not just money market funds [but a] broader base. [They] will be focusing on that in particular.... Where I think the President's Working Group will end up focusing is, number one ... the broader market. But also some of the things that changed in the 2014 amendments that went into effect in 2016, having to do with gates and fees and triggers on liquidity ... whether they should [exist], whether they should be delinked from triggers of liquidity, and whether they should be considered separately entirely from a gates perspective versus a fee perspective."
When asked another question about rates, Cunningham answers, "Obviously short term rates are anchored to Fed policy. And at this point, Chair Powell earlier this week, told us, we're still in a very good environment. There is going to be stimulus, and it's not going to change in the near-term. So we tend to believe him.... The Fed is not in play in 2021. There's just no way that's going to happen. But we also think that the guidance that they've given that leads us to a 2023 timeframe might be a little bit too long, given some of those scenarios.... We're probably thinking about a steeper yield curve with Fed policy ... in the second half of 2022, at least at the rate that we're currently progressing."
She explains, "So where does that put out in the context of this year, this day, these funds? It's essentially a kind of a technical market at this point, that's going to be driven a lot by supply and demand. [There is] a lot of front end cash.... When that front end cash starts to get more comfortable -- as the yield curve on the bond side backs up or as the equity market maybe pulls off a little bit and they re-enter those markets -- some of the cash will leave the liquidity markets and that in and of itself less demand will probably yield curve will steepen."
Cunningham adds, "On the other side of the equation, the supply side: we [may] get additional Treasury supply, GSE supply is probably pretty stagnant for the year, commercial paper should pick up though as industry picks up, [so] that's the supply side. You've got more supply, less demand in that situation [so] perhaps you get a little bit of a steeper money market yield curve. That doesn't mean you get 15 basis points or 20 basis points, it probably means you get 3 basis points to 5 basis points. So that's sort of the neighborhood that we're looking at from a steepness standpoint in 2021."
Finally, Donahue says, "In the whole history of money funds going back into the '70s, to me, the way to look at it is people will always need to have their cash managed. There are various things that occur in the marketplace that incensed them more. Yes, higher rates would be more helpful. But on the other hand, if you go back to a standard issue, wealth management [metric], about 20% of that money is always in cash in any event, whether they're long the market, whether their bets on, bets off. It's just the ebb and flow of life, and you couple that with the increase in money supply, the overall increase in markets and portfolios being a percentage of those increases in value, there is always constant demand for the cash."
