May 12, 2017
Fitch says floating NAV hasn’t floated around too much; spreads are attractive, too.
Money is trickling back to institutional prime money market funds, pulled in by stable net asset values and widening spreads. That’s the latest take from Fitch Ratings, which notes that while billions have flowed back into prime MMFs, government funds – the destination for cash following new MMF regs implemented last October – saw outflows of nearly double the prime inflows.The driver of the outflows from governments was primarily the fact that they became the most popular destination for cash fleeing prime, mainly because they were going to keep the stable NAV regime versus a floating NAV. The mass push into governments ended up suppressing yields. “The surge in demand for government assets dampened yields in that market segment while the reduced demand for prime assets boosted their yields,” Fitch says in a research note. As of March 31, Fitch says the spread between prime and government funds rose to 0.33%, “significantly higher than the post-crisis average of 0.09%.”
That some money is trickling back to prime was recently noted at a NeuGroup Treasury Investment Managers’ Peer Group 2 (TIMPG2) meeting. About half the members of the group were testing the waters by going back into prime. Most others were staying in recently established separately managed accounts (SMA), bank deposits or other short-term vehicles. Notably, many members at the meeting were putting a lot of cash into European prime money market funds; this even though European MMFs will in the next several months have some of the same rules applied to them as were applied to US prime funds, namely VNAV, gates and fees.
One member of the TIMPG2 said the gates and fees for US prime were a non-starter for his company, which forced him out of the funds. He was heavily invested in European MMFs funds so indicated he may take cash out of them when the European rules kick in. The destination will be SMAs that he currently was developing with an external cash manager.
But gates and fees haven’t been a huge barrier for investors going back to US prime, Fitch says. That’s because prime fund managers “continue to employ conservative liquidity management strategies, maintaining weekly liquidity buffers above the 30% regulatory threshold to assuage investor concerns about the liquidity fees and redemption gates features.”
At the same time, managers seemed to have solved the VNAV conundrum, allowing prime funds to exhibit “significant stability in NAV since moving to a floating NAV, a key consideration for investors.” And this has been despite two Fed rate hikes.
“In the six months post-reform implementation, investors have had the opportunity to observe two Fed hikes and how managers have weathered the new operating environment,” Fitch says in its note. “Since reform implementation, 95% of observations in daily changes in institutional prime fund NAVs have shown no movement. 5% of observations showed that NAV moved up or down by 1 basis point (bp) and in almost no instances NAV moved by 2 bps or more in one day.”
Fitch expects the movement back to prime to continue “as investors continue to gain comfort with the new regime although the small size of many existing institutional prime funds will restrict the rate at which money is able to return.” Still, Fitch goes on to note, prime funds “will not recover all that was lost, as some flows into government funds were the result of structural changes such as fund conversions or investor mandates requiring a constant NAV.”