As we wrote yesterday, Crane Data's recent European Money Fund Symposium discussed issues involving euro, pound sterling and U.S. dollar money funds domiciled in Ireland, Luxemburg and France. The final session of the webinar, "Senior Portfolio Manager Perspectives," which features Deborah Cunningham of Federated Hermes, Joe McConnell of J.P. Morgan Asset Mgmt. and Paul Mueller of Invesco, discusses supply and portfolio strategies. We excerpt from their session below. (Note. See the European MFS recording here and the handouts here.)
Mueller tells us, "The biggest thing in the Sterling market right now is the Bank of England.... We've seen some pretty incredible moves in the last few weeks. I think these are the biggest, sharpest changes in short term rates we've seen outside of the global financial crisis in fact. You probably have to go back to the mid-1990s to see market expectations move so quickly. So, I think in the sterling market, it's all about price discovery and issuers trying to work out what levels they can issue at and obviously, investors working out what makes sense to buy here."
He comments, "I think the market, in my view, is just getting a little bit excessive on the rate hike prices now. Certainly, I can expect a little of taking away, perhaps the emergency rate cut and maybe a little bit more. But getting to 1.0% by August next year seems a little bit toppy. But clearly inflation caught a lot of people by surprise. You've only got to look at the speed of breakeven rates to see the market certainly wasn't pricing this. There are numerous factors for that, not just U.K. specific ones. `But the Bank of England has been pretty hawkish in its comments on the whole in the last few weeks, and certainly hasn't pushed back on market expectations."
Asked about year end, Mueller replies, "It's going to be tricky ... it always is. You know, we've endeavored to purchase ... securities that will fall into the first week of January. We've also bought more sovereign supranational agency, government guaranteed securities, which under the regs will count as weekly liquidity. That's helpful. And we work closely with all our bank counterparties, as I'm sure our peers do ... to sort of lock in [supply] for year-end.... But you can never tell. If you get a large inflow on the last day of the year, that can always be a little bit tricky. But yeah, so far, we've always got through it, but it does seem to get harder each year."
On the euro money markets, McConnell tells us, "Gross rates are around negative 0.55%, but they've been slowly ticking down through the course of the year. You know, the big challenge in the euro area really is just the amount of liquidity in the system. Excess liquidity is at record highs and continues to grow, and will continue growing. [T]he ECB is still very much active through their ... asset purchase programs, extending a lot of liquidity to the banking sector through long term refi operations.... Banks have very attractive levels, which has seen a huge uptake. So there's just a lot of liquidity in the system, which is really kind of keeping the money market curve incredibly flat."
He continues, "We're even seeing the market pricing around 10 basis points of hikes to the deposit rate by the end of 2022. And then, in 2023, some more hiking of the deposit rates. That certainly is an interesting development and sits at odds with the forward guidance that the ECB have been giving. So, arguably maybe it looks a little overdone in euros. I would agree that maybe Sterling could be getting a bit choppy as well.... Unfortunately, it's not really near term enough for it to make much of an impact on the money market curve.... I think the decision about whether they retire the very attractive rates that banks get -- banks effectively borrowing money at negative one percent currently -- that's due to run out in June.... It's possible that we start to see banks repaying some of that liquidity mid-next year.... I'd love to see that happen because all this ... money in the system the banks have been taking does crowd out the need for the European banks to issue short term money market securities such as CP and CD. So maybe that starts to normalize the equation a little bit and we see a little bit of supply come back to the market."
Cunningham says, "We're all operating in various currencies and money markets, and we all have issues that are slightly different. Certainly, in the U.S. dollar market, the debt ceiling has been front and center. It's very annoying that they kicked the can down the road six to eight weeks, which just means it continues to be [an issue]. At this point, with the early December timeframe associated with it, [it's] interfering to some degree with year-end. It's even more complicated in the U.S. market because we have this whole debt ceiling issue to deal with in addition to what the normal year-end intricacies are around liquidity and flows and trading specials, and that sort of thing."
She explains, "So debt ceiling stuff aside, supply is definitely still, you know, sort of driving where rates are and what's happening from a curve standpoint.... We did have triparty, DTCC or FICC sponsored repo open up about a month ago. That's helped a little bit from a supply perspective, yet you continue to see RRP balances that are very substantial, a trillion and a half. I would not be surprised at all if we exceed the $2 trillion mark for the first time as we get closer to year-end."
Cunningham also says, "The banks that are out there that are financing in the repo market are, because of the supply demand imbalance, kind of price drivers at this point. So they are offering, in many instances, rates that are below that five basis points floor. We all know that not everybody can get that 5 basis point floor from the RRP. There are only a set number of counterparties. And although the Fed increased the number of counterparties about counterparty, it's still a binary set.... Our offshore funds obviously are unable to access the RRP, but ... we can save the repo that's at or above 5 bps so that it is ... helpful to the offshore products."
She tells us, "When we look at the commercial banks' CD curve, it has started to back up. It's probably back up anywhere from two to almost 10 basis points, depending on whether you're looking at the 6-month part of the curve over the 12-month part of the curve.... Buying into that as it's happening, we think has been a pretty successful strategy."
When asked what he's buying, Mueller answers, "Our aim is to have well-diversified issuer exposure [with a range] of maturity structure. You know, we also take account of country risks. So we like to see that nicely spread. I mean, for a while, we'd been buying SONIA floaters.... We hope we go beyond the negative rate expectations. We've been buying a few floating rate notes. We continue to like asset-backed ... particularly the front end of a curve. As I said earlier, with the WLA, we like to buy sovereign, supranational agency paper where we can. [So] nothing specific, but ... we're focusing on ... as wide a range of issuers as possible."
McConnell adds, "In the euro space, ... there's less European banks in the portfolio than you'd seen in the past. You know what we're buying? Instead of that, we continue to like the asset-backed CP sector. That does give us some value, and certainly some supply in the short part of the curve. But we look across sort of like one week to six months, at least the same regular supply there has given us a decent pick up versus, you know, those banks that do post levels.... We look at other regions ... to diversify, but also to replace some of that European issuance that's not there. We're seeing, you know, some trends which are interesting. We've seen some of the sort of Swiss cantons or banks come into the market.... We like them, they have a sort of a degree of state backing ... and they've certainly increased their footprint quite notably."
Finally, he tells us, "What else are we seeing? We also like the sort of SSA space for the reasons Paul outlined, counting them towards our weekly liquid assets bucket. You know, we see a fair amount of issuance out of them.... We see a lot of issuance out of the likes of the French agencies, and they come up [with] levels that are pretty attractive versus T-bills. But we're also seeing some new issuance as well. We've seen the EU issue bills in the last month or so.... They've had a decent amount of issuance already and will continue through the rest of this year.... So, you know, a welcome entrant to those sort of high quality, safe space, which we we've also taken a look at."
