Daily Links Archives: November, 2011

BlackRock's Mark Stockley writes "Money Market Funds: A Global Story" for U.K. Treasury website GTNews.com. He says, "The credit crisis of 2007-2009 changed both regulators' and investors' perceptions of the risks associated with many sectors of the investing markets. The money market fund (MMF) sector in particular has been subject to scrutiny by regulators around the world as the extent to which its role as a lender to financial and non-financial institutions in the short-term credit markets have become more widely understood. Just under US$5 trillion of assets were held in money market mutual funds (MMF) by the end of 2Q11, according to a report by the European Fund and Asset Management Association (EFAMA) and US-based Investment Company Institute (ICI). These assets were held in a range of product types and currencies, and domiciled in 42 countries around the world. The report shows that assets held in MMFs are concentrated in three main markets: first, the US, with US$2.7 trillion (55%); second, in countries adhering to the Code of Practice of the Institutional Money Market Funds Association (IMMFA), with US$648bn (13%); and third, France, with US$532bn (11%). French and IMMFA funds are registered as UCITS under EU regulation, with the latter principally domiciled in Ireland (US$456 bn1) and Luxembourg (US$192bn2)." See also, "Emirates NBD Asset Management Money Market Fund breaks 100m barrier".

Reuters writes "U.S. cash funds primed to recover waived fees". The article says, "Several companies in the money market fund industry, which has waived several billion dollars of fees over the past two years, are primed to recapture lost revenue from investors at a future date. In a recent disclosure, for example, discount brokerage Charles Schwab Corp said it could potentially recover $878.2 million in previously waived fees from investors in a number of its money market funds. The fee recapture, as disclosed in an updated filing with the Securities and Exchange Commission, could take place over a three-year period that ends in 2014. Peter Crane, president of Crane Data LLC, a company that tracks the money market industry, said he has noticed that several funds have mentioned the ability to recapture waived fees in recent prospectus updates and supplements. He also said these funds have warned investors of this "recoupment risk." In a near-zero interest rate environment, the funds are not in position to recapture previously waived fees just yet. But as one industry executive put it, funds are drawing a line in the sand to let investors know that fee recapture is coming." Reuters explained, "Crane said fee recapture won't be an issue until the U.S. Federal Reserve raises its Fed Funds rate to 0.50 percent, which could be anywhere from mid-2013 to early in 2014, or even beyond. Even then, he said a Fed Funds rate of 25 basis points to 50 basis points would only unwind fee waivers. He said money funds are waiving about half of their fees currently, charging 0.18 percent of average assets, compared with 0.36 percent a couple of years ago. Money market funds waived an estimated $4.5 billion in expenses in 2010, or more than three times the amount waived in 2006, according to Investment Company Institute, a mutual fund industry trade group." See also, Crane Data's Nov. 15 News "MMFs Prepare to Recapture Fee Waivers; Warn of Recoupment Risk".

"Deutsche Bank is reviewing the structure of its global Asset Management division" says a press release. It explains, "Deutsche Bank announced today that it is conducting a strategic review of its global Asset Management division. While the Bank remains committed to asset management, this review is part of the Bank's continual effort to maintain an optimal business mix and be among the market leaders in each of its businesses. The strategic review of the Asset Management division is focusing in particular on how recent regulatory changes and associated costs and changes in the competitive landscape are impacting the business and its growth prospects on a bank platform. All strategic options are being considered. The review covers all of the Asset Management division globally except for the DWS franchise in Germany, Europe and Asia, which the Bank has already determined is a core part of its retail offering in those markets." Kevin Parker, Global Head of Asset Management, comments, "The outcome of this review will be driven first and foremost by our fiduciary duty to, and the interests of, our clients. Our aim is to find the best strategic option to maximize the performance and potential of the Asset Management division." DB Advisors ranks 16th among U.S. money fund managers with $45 billion as of Oct. 31 according to Money Fund Intelligence XLS and ranks 6th among "offshore" (Dublin and Luxembourg) money fund managers with $38 billion according to Money Fund Intelligence International.

"Norway's Eksportfinans Cut to Junk by Moody's Amid Wind Down" says a piece from Bloomberg earlier this week. It states, "Norway's Eksportfinans ASA was cut to junk by Moody's Investors Service after the lender failed to meet European Union regulatory requirements, prompting the government to wind it down and create a new loan program. The issuer and senior-debt ratings of Eksportfinans, which helps foreign investors buy Norwegian goods and services, were cut to Ba1 from Aa3, the rating company said today. The subordinated debt and hybrid ratings were lowered to Ba2 from A1 and B1(hyb) from A2(hyb), respectively. The short-term ratings were cut to Not Prime from Prime-1 and all long-term ratings remain on review for downgrade, Moody's said." A check of Crane Data's latest set of Money Fund Portfolio Holdings shows that money market mutual funds do have some minor exposures to Eksportfinans Notes and Financial Company Commercial Paper. Our Money Fund Wisdom product shows the name held by 5 funds from 3 managers with a total of $252 million in exposure as of Oct. 31, 2011. All but $22.5 million matured prior to November 23 and the debt is expected to remain out of default, so we don't expect this to be a big problem for those few funds with small pieces. Note that Crane Data currently tracks monthly holdings for about 90% of all taxable money funds, so there could be some additional exposure outside of our collections. See also, "Eksportfinans Holdings in First American Prime Obligations Fund". In other news, ICI reported its "Money Market Mutual Fund Assets, which said, "Total money market mutual fund assets increased by $1.01 billion to $2.646 trillion for the week ended Tuesday, November 22."

The FDIC's latest "Quarterly Banking Profile says, "Total deposits increased by $234.5 billion (2.4 percent) in the third quarter. Deposits in foreign offices declined by $45 billion (2.9 percent) while domestic deposits rose by $279.5 billion (3.4 percent). About two-thirds of the increase in domestic deposits ($183.8 billion) consisted of large denomination (balances greater than $250,000) noninterest-bearing transaction deposits, which have temporary unlimited deposit insurance coverage through the end of 2012. Three-quarters of the increase in these large deposits occurred at the ten largest banks, although more than half of all banks (55.9 percent) reported increases in these accounts. Nondeposit liabilities declined by $51.2 billion (2.2 percent), as banks reduced their Federal Home Loan Bank advances by $17.9 billion (5.2 percent)."

The FT writes "US funds cut exposure to European banks". It says, "The largest US money market funds cut their exposure to European banks to another record low last month, intensifying concerns over a wholesale funding run on the region's banks and the potential for an ensuing credit crunch. The 10 biggest funds trimmed their short-term lending to European banks by 9 per cent on a US dollar basis between the end of October and the end of September, according to new data from Fitch Ratings. That takes money funds' European bank exposure to 34.9 per cent of the funds' total assets of $642bn, down from 37.7 per cent of fund assets at the end of September." Robert Grossman, head of macro credit research at Fitch, tells the FT, "There are three fundamental ways to reduce risk: lower exposure, shorten maturities or increase collateral. All three of those strategies are at work here." See the full press release, "Fitch: Treasurys Largely Offset Decline in U.S. Money Fund Exposure to European Banks" here.

The SEC recently posted a Comment Letter on the President's Working Group Report on Money Market Fund Reform. The letter the first since August 12, is from Washington State Treasurer James Mcintire. Mcintire writes, "In the aftermath of the tumultuous market events of 2008, the Securities and Exchange Commission (SEC) made important revisions to Rule 2a-7 to strengthen the regulatory framework, increase transparency for investors, tighten restrictions on weighted average maturity and credit quality, and to introduce a weighted average life restriction and liquidity guidelines. These positive revisions bolstered the safety of critical elements of the cash management and short-term investing for corporations, individuals, fund managers and governmental entities. A key component of the value of 2a-7 funds for cash managers in the public and private sector is their ability to safely operate using a stable net asset value (NAV) -- and I applaud your recent changes to Rule 2a-7 that strengthen this ability. However, I am concerned that some proposals you have put forth are unnecessary, go too far, and threaten the existence of a critical investment option for cash managers specifically, recommendations to force 2a-7 funds to operate on a floating NAV basis. Over 40 states operate local government investment pools (LGIP) and a vast majority of those pools, including the State of Washington's LGIP, are operated in a 2a-7-like manner. There are two primary reasons for operating in conformity with Rule 2a-7, even though we are not subject to SEC regulation. First and foremost is that Rule 2a-7 provides a solid investment framework with which to safely operate an LGIP that offers 100% liquidity to participants on a daily basis and does so with a stable NAV. Secondly, is that if an LGIP operates outside Rule 2a-7, the Governmental Accounting Standards Board (GASB) dictates that it must report to each participant their share of any unrealized gains or losses and that participants must report these gains or losses on their balance sheets. This is not an acceptable option for most governmental entities -- nor is operating on a variable NAV basis.... If our $10 billion LGIP fund is forced to operate on a variable NAV basis, many of these local governments will end up once again chasing yields amongst community banks or be forced to park their money in noninterest-bearing accounts. This would truly do a disservice to many struggling local governments by leaving them without access to safely managed investment resources."

Natixis economists Sylvain Broyer, Felix Eschwege, and Inna Mufteeva write in a recent special report entitled, "US money market funds: shifts in funding for French and European banks", "Prime money market funds' assets under management again fell from USD 1.542 trillion last May to USD 1.335 trillion at the end of October 2011. In the same month, these prime funds invested no more than USD 63 billion in French bank securities (CDs, CPs, repos and other instruments), amounting to USD 109 billion less than in June. Meanwhile, the average maturity of assets shortened from 40 to 14 days. This outflow is a reflection of the contagious effect of the sovereign debt crisis on banks in the eurozone. Since it is still less likely that a rapid solution to this crisis will be found as long as the ECB fails to decide upon mass purchases of sovereign debt, even sterilized, any return of short-term USD funding by the US money market funds to European and French banks would be unusual. Having built up their portfolios with dollar-denominated assets over the past few years, European banks are now more dependent on this dollar-funding than they were in the past." The Natixis study footnotes, "Our figures are based on data from Crane Data, a think tank specialized on US money market funds. Crane Data monitors around 94% of all ICI-covered MMFs and accounts for USD 2.452 trillion of assets under management at end-October 2011." In other news, ICI reports weekly "Money Market Mutual Fund Assets".

Wells Fargo recently launched a newly redesigned Institutional Cash Management site. Wells Fargo Funds Management Group Communications Manager Lauren Sawyers tells us, "[A]fter months of thorough research, deliberate planning, and intentional implementation, earlier this month we launched a newly redesigned Institutional Cash Management site where clients, channel partners and prospects can find an extensive collection of information and resources for their investing needs -- all at their fingertips in an easy-to-navigate format. The redesign process, led by E-Business, began in summer 2011 was a team effort with several goals in mind. The original site, which launched in 2006, not only needed a facelift to better align with the FMG and Wells Fargo brand standards, but also increased functionality to enhance the user experience. To get a better sense of what clients use most and where there was room for improvement, E-Business collaborated with members of the sales team.... The resulting redesigned homepage features a refreshed layout and: Streamlined, one-click organization of popular resources; A new banner and rolling promotional box that currently highlights Dave Sylvester and his highly acclaimed monthly commentary, the Money Market Fund Reform Resource Center, and a link for investors to sign up for rate reports; Easy access to fund-specific information with links to funds direct from the homepage; Homepage access to our two money market fund trading platforms, online account access and CEO Portal; A new "Fund Literature" section that now includes rate reports and Product and Service Alerts, which were previously accessible separately under Account Services; and, A new "News & Commentaries" section that now houses all timely industry news and recently published commentary in a centrally located place just one click from the homepage."

Federated's Debbie Cunningham wrote last week, "With regard to our European bank exposures, Federated has pared back our maturities, but we have not pared back on our ultimate level of exposure. This approach is similar to the one we took with asset-backed commercial paper between 2007 and 2008, when many in the marketplace just said, "No, we're not using exposure to that sector at all." With European banks today, we continue to use them, and we continue to be comfortable with our analysis and day-to-day monitoring of those institutions.... So, we remain exposed, and we are keeping the maturities shorter so that we have increased decision points on whether or not to continue to go down that path. At this point, the answer is yes we will continue to use them." In other news, "BlackRock's Larry Fink "is scheduled to speak at the Bank of America Merrill Lynch Banking and Financial Services Conference in New York, on Wednesday, November 16, 2011, beginning at approximately 12:55 p.m."

Reuters writes "U.S. money funds turn to Canada on Europe worries". The article says, "U.S. money market funds have increased their investments in Canada for safety's sake as the debt turmoil in Europe rages on. The $2.6 trillion money fund industry, which had been a major investor in short-term euro-zone bank debt, sees the world's 10th-biggest economy in better shape than Europe. Canadian banks are deemed safer than their European counterparts, given their minimal exposure to the debt-laden and weaker euro-zone nations, the focal point of that region's crisis, analysts and fund managers said.... U.S. money funds so far this year increased their holdings of Canadian bank debt by $28 billion. This is only a fraction of the $266 billion drop in their ownership of commercial paper, certificates of deposit and other short-term securities from euro-zone banks, according to J.P. Morgan Securities." See also, Investment News' "Let's get real about money market funds", which says, "It is time for investors and financial advisers to get real about money market funds -- and either accept them or reject them for the investment vehicles that they are."

Federal Reserve Vice Chair Janet Yellen spoke Friday on "Pursuing Financial Stability at the Federal Reserve." In her speech, she commented, "Less-discernible progress has been made to date, however, in addressing other key vulnerabilities that came to the fore during the financial crisis. Indeed, short-term funding markets remain an important source of structural risk. Despite some significant reforms that enhance liquidity and impose additional restrictions on portfolios, money market funds are still susceptible to liquidity constraints largely because of attributes like their rounded net asset value (NAV) feature and the low risk tolerance of their investors. Options for further reforms being considered by the Securities and Exchange Commission (SEC) include a mandatory floating NAV to mute the incentive for investors to be the first to redeem, capital buffers to allow funds to deal better with actual and potential losses while sustaining a stable NAV, and limits on redemptions both to provide more time for fund managers to address problems and to emphasize to investors that money market funds do not guarantee bank-like liquidity. The triparty repurchase agreement (repo) market also continues to exhibit important vulnerabilities. In particular, the settlement process for triparty repo trades continues to rely on massive amounts of intraday credit and, as a result, remains vulnerable to a decision by a clearing bank to withhold funding from a market participant in default or perceived as facing distress. The FSOC has recommended reforms to deal with these problems, and an industry task force has taken some key initial steps in that direction -- for example, by coordinating the implementation of a robust confirmation process for triparty trades. But more needs to be done. Indeed, given the centrality of this market to the financial system, taking further steps to reduce its vulnerabilities should be given a high priority. In addition to addressing the unfinished business from the financial crisis, financial stability authorities and market participants need to be alert to new structures and products, not just those that caused problems in the past. New financial products -- for example, exchange-traded funds and collateralized commercial paper -- may foster more efficient intermediation, but they may also raise systemic risk if they increase the complexity and interconnectedness of the financial system."

ICI's "Money Market Mutual Fund Assets" says, "Total money market mutual fund assets increased by $16.46 billion to $2.639 trillion for the week ended Wednesday, November 9, the Investment Company Institute reported today. Taxable government funds increased by $9.99 billion, taxable non-government funds increased by $7.53 billion, and tax-exempt funds decreased by $1.05 billion."

The Wall Street Journal writes "Money-Market Inflows $31.88B In Latest Week", saying, "Investors added $31.88 billion to money-market funds in the latest week on steep inflows to taxable funds from institutional investors, according to iMoneyNet. So far this year, the money-market information provider has mostly reported outflows. Though the funds have experienced more inflows in recent weeks, withdrawals were common throughout most of the summer due to concerns about the euro-zone debt crisis and a weak economic outlook in the U.S. For the week ended Tuesday, total assets in money-market funds rose to $2.613 trillion, iMoneyNet said." Crane Data's Money Fund Intelligence Daily shows money fund assets rising by $9.1 billion November 8 and by $24.0 billion in the week through Tuesday. ICI will report its weekly asset series late Thursday afternoon. In other news, the New York Times quotes Reuters BreakingViews on "Tighter Controls on Market Funds". It says, "American money market funds have played a supporting role in the euro zone crisis: they are short-term lenders to European banks. Before that, they lent to the likes of Lehman Brothers. The regulators of the funds, a $2.5 trillion market, want to end the fiction that they are just repackaged savings accounts. The Securities and Exchange Commission is considering requiring money market funds to float their net asset values, as other mutual funds do, rather than having the flexibility to hold them at the traditional $1 a share. That veneer of stability -- broken only rarely, for instance right after Lehman collapsed in 2008 -- is one feature that can make investors complacent. The S.E.C.'s proposed change is a big one, but it worth making because it would force investors to recognize the risks and remove cover for the funds' managers. Mary L. Schapiro, the S.E.C. chairwoman, floated the idea this week of requiring money market funds to hold capital reserves. The logic goes that banks must have a cushion to absorb volatility in their assets. So why not money market funds."

A press release entitled, "IMA Money Market Sectors to Follow European Definitions" tells us, "The [U.K.-based] IMA today announces that it will create two money market sectors, based upon the ESMA [European] "Short Term Money Market" and "Money Market" definitions that were introduced into the FSA Handbook in July 2011. The new IMA sectors will become effective as of 1 January 2012. The IMA has adopted in principle the new FSA definitions of money market funds with effect from 1 July 2011. Firms were granted a six month transition period to bring their funds into compliance with the new rules and sector definitions. At this stage the IMA can confirm that ten funds will join the IMA Short Term Money Market Sector and six will join the IMA Money Market Sector. A number of firms have not yet confirmed which sector their fund will sit in. Whilst the usual IMA policy is to have a minimum number of ten funds in a sector, the IMA has decided to make an exception in this case to ensure consistency with the FSA Handbook. To monitor funds' compliance with the sector definition, firms will provide quarterly certification to Morningstar, the IMA's monitoring company, that they have met the FSA rules. From 1 January 2012, firms will also supply monthly portfolio holding data for each fund to Morningstar. The IMA will review the money market sectors in twelve months' time." Jane Lowe, Director of Markets at the IMA, comments, "Following consultation with our members, we have decided the IMA money market sectors should reflect exactly what appears in the FSA Handbook. We have long had concerns about the proliferation of descriptions for money market funds. Introducing regulatory definitions for authorised money market funds brings welcome clarity for consumers in both the UK and other European countries."

Wells Fargo Advantage Money Market Funds' latest monthly commentary says, "The money markets continued to be riveted by developments in the eurozone, as new risks -- both real and perceived -- seemed to pop up every day. We argued last month that despite the debt woes of some sovereign nations, the issue is that the prime money markets have gotten themselves caught in a negative feedback loop, where perceived problems are causing real ones. This will not be easy to escape, and the steady upward creep of rates and decreased volumes in longer-term money market instruments seem to indicate that investors are increasingly risk-averse. Meanwhile, supply and demand imbalances have led to persistent low rates in the U.S. government sector, with yields often at, or below, zero. However, the municipal markets are relatively calm. After a high-profile analyst's forecast for widespread defaults in the municipal markets this year proved to be pure folly, more investors, including prime money market funds, see the municipal sector as a safe haven in these troubled times."

Online money market trading portal, Institutional Cash Distributors (ICD) will announce its "next generation institutional money market fund trading and risk management platform" at the 2011 AFP Conference Monday in Boston. The portal's press release says, "The Internet-based ICD Portal which is available at no cost to its clients delivers a comprehensive end-to-end, institutional investing "best practices" methodology that includes portfolio diversification, exposure analytics, compliance management, portfolio optimization and dynamic reporting -- all coherently developed for a streamlined corporate treasury user experience." New ICD features include: "Highly customizable, purpose-built portal views according to client preference; State-of-the-art security features ensure protection of MMF trading and risk management workflows; Open information architecture enables rapid integration with all treasury technologies; Seamless integration of client account balances and Transparency Plus, providing one-click access to dynamic risk management intelligence, exposure analytics, and comprehensive reporting; On-demand portfolio compliance tracking aligned with Treasury Strategies recommended MMF guideline parameters; and, SWIFT-enabled infrastructure facilitates consolidation of trading and payment workflows," according to the release.

Yesterday's Wall Street Journal wrote "Bernanke and Banks Tested by Latest Market Strains". It said, "Three years after the global financial crisis, and a year after a U.S. regulatory overhaul, the world economy remains vulnerable to hazards that nearly broke the banking system last time. Federal Reserve officials worry that investors could rush out of the $2.6 trillion money-market mutual-fund industry, where millions of Americans park their savings and where the world's banks come for short-term loans.... Fed officials worry about tremors traveling through parts of the financial system and triggering earthquakes. One potential fault line is the $2.6 trillion money-market mutual-fund industry, which was barely addressed under Dodd-Frank, the set of new financial rules passed into a law a year ago. The funds hold savings that are lent to banks and corporations around the world through the purchase of short-term debt. A panic could quickly drain resources from borrowers or destabilize the funds themselves, leading to losses among savers. Unlike U.S. bank deposits, money funds aren't guaranteed by the government. When Lehman collapsed in 2008, it triggered losses in a money-market fund called the Reserve Fund, which held Lehman debt, sparking a broader panic in money market funds. The U.S. Treasury backstopped the industry as investors fled, a move now forbidden by the Dodd-Frank law. The industry, Mr. Rosengren said, is a "source of vulnerability" that needs to be addressed. Investors also worry. Money-market holdings have contracted by nearly $1 trillion since Lehman's collapse, including a reduction of $118 billion since May.... One worry is the exposure to markets overseas, particularly Europe. Foreign financial institutions searching the globe for dollars turn to U.S. money funds for short-term cash. Foreign exposure has increased since the collapse of Lehman Brothers, partly because there are fewer U.S. dealers looking for short-term loans."

The Federal Reserve's latest FOMC statement says, "Information received since the Federal Open Market Committee met in September indicates that economic growth strengthened somewhat in the third quarter, reflecting in part a reversal of the temporary factors that had weighed on growth earlier in the year. Nonetheless, recent indicators point to continuing weakness in overall labor market conditions, and the unemployment rate remains elevated.... Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee continues to expect a moderate pace of economic growth over coming quarters and consequently anticipates that the unemployment rate will decline only gradually toward levels that the Committee judges to be consistent with its dual mandate. Moreover, there are significant downside risks to the economic outlook, including strains in global financial markets. The Committee also anticipates that inflation will settle, over coming quarters, at levels at or below those consistent with the Committee's dual mandate as the effects of past energy and other commodity price increases dissipate further. However, the Committee will continue to pay close attention to the evolution of inflation and inflation expectations.... The Committee also decided to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that economic conditions--including low rates of resource utilization and a subdued outlook for inflation over the medium run--are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013. The Committee will continue to assess the economic outlook in light of incoming information and is prepared to employ its tools to promote a stronger economic recovery in a context of price stability."

Federated Investors' Debbie Cunningham writes in her latest Month in Cash, "As worries subside a bit, rates rise a bit," "As expected, benchmark U.S. interest rates remained anchored to virtually zero during the month of October as the Federal Reserve maintained its ultra-accommodative monetary policy that it initiated almost three years ago. However, market interest rates moved higher across the cash yield curve amid encouraging signs that the U.S. economy would avoid a double-dip recession and that the euro zone finally would resolve its long-festering sovereign debt crisis.... The Federal Reserve’s so-called "twist" operation, in which the central bank sells shorter-dated securities and uses the proceeds to buy longer-term paper, has been underway for about a month with little impact on the cash market so far. Demand for the roughly $9 billion of money-market eligible securities that the Fed has sold to date has been so strong that any upward pressure on ultra short-term yields has been minimal at most. However, we believe that Operation Twist could at least put a floor under overnight rates, thus supporting interest rates on repurchase agreements."

Recently, Fitch Ratings published a "Primer: CEF Variable-Rate Demand Preferred Shares," which is subtitled, "Closed-End Fund VRDPs Target Short-Term, Money Market Investors." Fitch writes, "Variable-rate demand preferred shares (VRDPs) issued by municipal closed-end funds (CEFs) are structured to appeal to short-term investors, particularly money market funds (MMFs).... VRDP issuance has increased in recent months, with outstandings growing to $8.7 billion at the end of September 2011. `Demand has been driven in part by MMFs' increased need for securities that satisfy new regulatory guidelines on weekly liquidity. As of August 2011, Fitch-rated municipal and prime MMFs held, on average, 2.7% and 0.1% of assets in VRDPs, respectively, although individual fund allocations ranged from 0%-10% of portfolio assets.... VRDPs typically benefit from unconditional liquidity support in the form of a seven-day put option to a highly rated financial institution. Provided it conforms with Fitch Ratings' overall MMF rating criteria, Fitch includes VRDPs in its calculations of an MMF's available weekly liquidity. VRDPs are backed by a diversified portfolio of municipal bonds. Because of the tax-exempt nature of underlying securities, dividends from VRDPs of municipal CEFs are deemed to be exempt from federal income tax and may be exempt from local income taxes if offered by single-state municipal CEFs."