The Wall Street Journal discusses pending money fund reforms in its article, "Firms Wary as Money-Market Rule Changes Studied After Covid-19 Run." They tell us, "Investment managers are fighting for the future of money-market funds. Just over a year ago, jittery investors withdrew from the markets over concern the pandemic would devastate the economy. Money funds emerged as a flashpoint in March 2020, when companies and pension managers raced to stockpile cash, and the firms that managed those funds struggled to sell enough bonds to meet those redemptions. Now financial regulators are weighing rule changes designed to ensure that these funds fare better in the next crisis."
The piece explains, "Asset managers have supported some of the regulators' ideas, including one that might ensure higher-yielding prime money funds will weather future runs without the need for government support. Other proposals, they argue, would render many funds too costly to manage. They have made those opinions known in comment letters and meetings with Securities and Exchange Commission officials." Federated Hermes' Debbie Cunningham comments, "I don't think the SEC is in a seat where they want this industry to die a quick death or a slow and painful death."
The Journal discusses previous rounds of reforms, saying, "[P]rior changes and low rates have reshaped the money-market-fund industry, shifting more than $1 trillion into funds that hold government securities and out of prime funds. These funds typically offer investors higher returns, with more credit risk. Institutional prime money funds now hold $647 billion in assets, according to Crane Data. By comparison, government funds total nearly $3 trillion."
They write, "In recent letters and meetings, industry players are pointing the finger at one of the previous rule changes as the cause of some of last year's problems. The SEC's decision to allow a fund's board to impose gates or fees on investors looking to pull their cash when the fund's share of liquid assets dropped below 30% accelerated the run on funds as investors sought to get ahead of those limitations."
The article continues, "In March 2020, many investors didn't stick around to find out what would happen once their prime funds' liquid assets hit the 30% level. Instead, those investors raced to redeem their money before funds could impose any limits on those withdrawals. Some institutional prime funds struggled to keep up with these outflows."
It states, "Investment firms expect that demand for prime funds will come back once rates rise, and want to ensure the new rules don't impede their businesses' growth when that day arrives. If prime funds disappear, corporate borrowing costs might increase, they argue."
The WSJ comments, "The Financial Stability Board, led by Federal Reserve Vice Chairman Randal Quarles, plans to unveil its final recommendations in October. The SEC is expected to publish its proposed rule changes in early 2022. Many of the ideas focus on prime funds held by companies and other institutional investors."
Finally, they add, "Many of the other ideas included in the reports have drawn far less enthusiasm from the industry, including rules that would force managers to set aside capital to absorb potential losses or to fund a new 'liquidity exchange bank' that would step in to buy assets from money funds during a crisis. 'Regulators are interested in throwing every possible option except the one that would fix the problem: the Fed stepping in to provide liquidity,' said Peter Crane, president of Crane Data."
In other news, J.P. Morgan's latest "Short-Term Market Outlook and Strategy," includes a section entitled, "Beyond money markets: an update on low duration bond funds." Authors Teresa Ho and Alex Roever tell us, "At the start of the year, we posited that flows into ultrashort and short-term bond funds and ETFs should continue, driven by a confluence of inside-out (short money extending for yield) and outside-in (longer money to shorten duration) behaviors. This is not to say we expect money to flood into the sector; rather, on margin, we expect a boost in demand coming from both directions."
They write, "A look at the most recent Morningstar data shows this has unfolded largely as expected, with AUMs increasing by $91bn or 10% YTD.... To be sure, liquidity investors remain underwhelmed with yields in deposits and money market funds as rates have hovered at or near zero for months. Perhaps more notably, capacity issues are a rising concern as certain banks have been unwilling to accept as many deposits on their balance sheets."
JPM explains, "Interestingly, a closer look at the AUM composition reveals that most of the growth took place in the short-term sector (i.e., those with a portfolio duration between 1.5 and 3.5 years) as opposed to the ultrashort sector (duration between 0.5 and 1.5 years). 92% of the growth YTD can be attributed to a rise in short-term bond fund balances.... To the degree that flows were yield driven, this makes sense given the current rate and curve structure. At a minimum, an investor would need to go out beyond one year to pick up any significant yield advantage relative to deposits or money market funds.... Furthermore, despite the slightly longer duration, total returns of short-term bond funds remain superior to those of MMFs."
Lastly, they state, "It is perhaps worth noting that despite the demand for ultrashort and short-term bond funds (collectively their AUMs now register ~$1tn), MMF AUMs remain elevated. This is not to say that the yield-seeking-extension behavior is not taking place. Rather, we think it underscores the amount of cash in the system that is looking for a place to go. Even as the 1-3y sector grows, MMFs are seeing increased demand as banks look to shed deposits. Cash is everywhere. A QE tide lifts all AUMs." (Note: JP Morgan's Ho is scheduled to give an "Ultra-Short, ETFs & Stablecoin Update at our upcoming Money Fund Symposium, Sept. 21-23 in Philadelphia.)
