Federated Hermes, the sixth largest manager of money market funds, reported third quarter 2021 earnings and hosted a conference call on Friday. (See the Seeking Alpha earnings call transcript here.) The release says, "Federated Hermes, Inc. (FHI), a global leader in active, responsible investing, today reported earnings per diluted share (EPS) of $0.73 for Q3 2021, compared to $0.85 for the same quarter last year, on net income of $71.4 million for Q3 2021, compared to $85.8 million for Q3 2020. Federated Hermes reported YTD 2021 EPS of $2.04, compared to $2.29 for the same period in 2020, on YTD 2021 net income of $201.7 million, compared to $231.2 million for the same period in 2020. As reported for Q2 2021, Federated Hermes' YTD 2021 results include a $14.5 million, or $0.10 per diluted share, noncash U.K. tax expense."
President & CEO J. Christopher Donahue comments, "As clients continued to rely on our diversified investment options, Federated Hermes' fixed-income assets reached a record high in the third quarter, which marked our sixth consecutive quarter with positive net flows in fixed-income assets. Investors sought a range of Federated Hermes' fixed-income strategies, including multisector, high-yield and low-duration offerings, which have offered a yield advantage in this low-rate environment."
Federated tells us, "Fixed-income assets were a record $97.2 billion at Sept. 30, 2021, up $17.7 billion or 22% from $79.5 billion at Sept. 30, 2020 and up $6.4 billion or 7% from $90.8 billion at June 30, 2021.... Money market assets were $413.7 billion at Sept. 30, 2021, down $19.3 billion or 4% from $433.0 billion at Sept. 30, 2020 and down $16.1 billion or 4% from $429.8 billion at June 30, 2021. Money market fund assets were $292.3 billion at Sept. 30, 2021, down $33.6 billion or 10% from $325.9 billion at Sept. 30, 2020 and down $9.7 billion or 3% from $302.0 billion at June 30, 2021."
The release says, "Revenue decreased $37.9 million or 10% primarily due to an increase in 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) and lower average money market assets. For further information on the waivers, see 'Impact of voluntary yield-related fee waivers' below. These decreases were partially offset by an increase in revenue due to higher average equity and fixed-income assets. During Q3 2021, Federated Hermes derived 82% of its revenue from long-term assets (53% from equity, 19% from fixed income and 10% from alternative/private markets and multi-asset), 17% from money market assets, and 1% from sources other than managed assets."
It explains, "Operating expenses decreased $22.9 million or 9% primarily due to decreased distribution expenses predominantly resulting from higher voluntary yield-related fee waivers. During the three and nine months ended Sept. 30, 2021, voluntary yield-related fee waivers totaled $109.2 million and $310.2 million, respectively. These fee waivers were partially offset by related reductions in distribution expenses of $72.3 million and $204.9 million, respectively, such that the net negative pre-tax impact to Federated Hermes was $36.9 million and $105.3 million for the three and nine months ended Sept. 30, 2021, respectively."
The release continues, "Short-term interest rates remained near historic lows during Q3 2021 as technical factors at the front end of the yield curve kept yields on short-term government securities -- including repurchase agreements and Treasury bills -- just above zero. As a result, the net negative impact on pre-tax income from voluntary yield-related fee waivers on money market mutual funds and certain separate accounts may be approximately $39 million during Q4 2021. The amount of voluntary yield-related fee waivers can vary based on a number of factors, including, among others, interest rates, yields, asset levels, asset flows and the ability of distributors to share in waivers. Any change in these factors can impact the amount and level of voluntary yield-related fee waivers, including in a material way."
On the earnings call, Donahue states, "Moving to money markets, assets were down about $16 billion in Q3 with about $10 billion from funds and $6 billion from separate accounts. Our money market mutual fund market share, including sub-advised funds was about 7.2% at the end of Q3, down slightly from Q2 of 7.4%. While the Fed raised the administered rates in mid-June, the money fund yield curve remained flat and rates didn't change much in the third quarter. We believe that we will see higher short-term rates in '22. We continue to experience more waivers for competitive purposes.... Now taking a look at recent asset totals. Managed assets were approximately $636 billion, including $413 billion in money markets, $99 billion in equities, $98 billion in fixed income and $22 billion in the alternative private markets and $4 billion in multi-asset. Money market mutual fund assets were $290 billion."
During the Q&A, they were asked about fee waivers. CFO Tom Donahue responds, "Our competitive environment remains. It has always remained. And ... as we expect rates to go up over time, we will remain competitive with the rest of the market. That's basically how we view it.... The minimum yield waivers are the waivers to maintain zero or just above zero in the rates, and that's how we do it. If we are going higher than that, then that's really the competitive nature and that depends on what's going on in the marketplace. And we can't really predict what's going to happen there."
Another analyst (Ken Worthington) follows up, "It looks like the yield on the Government Obligations Fund rose in August and rose in September to match yield levels by some other big government funds.... I assume that this is a matter of competitive fee waivers that we've been talking about. Also, ... now that we're seeing more conviction around rate increases possibly coming next year, is there jockeying taking place to kind of try to win share through yield in a way that maybe you and the industry didn't see 6 to 12 months ago?"
Chris Donahue answers, "It's really hard to jump into the scan and the brain of the competitors as to whether they're trying to do something one way or the other.... So we just don't do that. We deal with the reality of the marketplace, what those yields are. I don't disagree with your observations about what was going on in the summer. And this game will continue. I'll let Debbie comment on some of the specifics of those -- of what was behind those rate moves."
Money Market CIO Debbie Cunningham responds, "Looking at the various curves and what's available, the government funds which ... are generally the ones that are contributing to the highest amount in waivers, were constrained in the third quarter by what was going on from a debt ceiling limit. So that has unfortunately been kicked down the road a little bit and will be impacting us to a large degree in the fourth quarter as well. If you look though at other curves that are not being influenced by that debt ceiling constraints, you're looking at curves that in the money markets have generally risen anywhere from 4 to 10 basis points. And our expectation would be as soon as we start tapering and get some supply and the debt ceiling is behind us providing more supply, the government curve will follow in turn."
She continues, "Expectations, from a competitor standpoint, are that with expected increasing yields, there's less of a concern about what needs to be enhanced to various shareholders in the marketplace. And I think that's what we're basically hearing and seeing, that flip the calendar into 2022, get the debt ceiling behind us, get tapering underway, and the government curve starts to look like the prime curve, whether you're looking at LIBOR or BSBY or whatever the indices are, and that means increasing rates."
When asked about money fund substitutes, Cunningham comments, "Well, it seems as though deposits are always in the picture, unfortunately, as a money market competitive product. And even in today's low rate environment, where there are substantial amount of the deposits that are uninsured and that are noninterest-bearing, that seems to be nonetheless a choice of many of our clients. As far as other types of products, I know lots have been mentioned as far as ETFs, cash like ETFs, cryptocurrencies, etc., we're not seeing that occur at this point. We have those on our landscape as something to watch. We're certainly understanding and involved in the market so that it doesn't creep up on us and become a distinctive competitor before we would recognize that but that's not necessarily anything we're seeing at this red hot moment in time."
Hanley adds, "Just to add to that, we are seeing, of course, clients, corporations putting cash to work, investing as we enter an up cycle and come out of the pandemic. So we will expect to continue to see uses of cash, whether that's stimulus money that's flowed through and flowed into money funds and eventually goes on to do its intended stimulus work as well as, as I mentioned, corporations beginning to invest and seeing opportunities where they were more hunkered down over the last 18 months."
Cunningham also says, "And one last thing, Ken, is that in the context of our Microshort, Ultrashort products, there have been clients that have -- over the course of the last two years with ultra low rates -- continue to bucket cash and go a little bit longer into those products. In addition, those that are concerned about a steeper yield curve and higher rates in the long end of the curve have also come into those products. But again, with a full lineup of funds that go from basically overnight out to 30 years, we're liking those flows."
