The Federal Reserve Bank of Boston asks, "Are retail prime money market fund investors increasingly more sensitive to stress events?" The paper's authors, Kenechukwu Anadu, John Levin, Lina Lu, Antoine Malfroy-Camine, and Nico Oefele, explain, "U.S. prime money market mutual funds (MMFs) experienced large redemptions and bank-like runs in 2008 and 2020. During these episodes, institutional investors in prime MMFs tended to redeem quicker and at much larger magnitudes than retail investors. In this note, we examine how retail investors' redemption sensitivity has evolved between 2008 and 2020, to assess whether they have become relatively more attuned to stress in the MMF sector."
They tell us, "To do this, we estimate the response of prime funds' net flows to periods of stress in the MMF industry. We find that, on average, institutional prime MMFs experienced similar aggregate net outflows in both stress periods. In contrast, the average aggregate net outflows from retail prime MMFs increased from 2008 to 2020. Our findings suggest that redemption dynamics of investors in retail prime MMFs, which are often thought of as slower to react to stress events than institutional investors, may be evolving."
Discussing "Historical MMF Runs and Reforms," the paper says, "MMFs are U.S. Securities and Exchange Commission (SEC)-registered investment vehicles that typically aim to maintain a stable or near stable net asset value (NAV) of $1.00 per share. MMFs are classified as 'prime' funds, which can invest in private short-term debt such as commercial paper (CP) and certificates of deposit (CD); 'government' funds, which invest substantially all their assets in U.S. government and agency securities and repurchase agreements; and 'tax-exempt' funds, which hold municipal securities. Additionally, MMFs are also classified as 'institutional' and 'retail'."
It claims, "MMFs are vulnerable to runs because they engage in liquidity and maturity transformation: that is, they issue money-like liabilities that can be redeemed each day while investing in assets with credit and interest rate risk. Indeed, prime MMFs experienced two significant runs in 2008.... Both runs exacerbated stresses in short-term funding markets, which abated after the Federal Reserve established emergency lending facilities. These facilities were intended to '... assist MMMFs in meeting demands for redemptions ... [and] enhancing overall market functioning."
The Boston Fed paper continues, "Following these runs, the SEC promulgated reforms in 2010, 2014 and 2023 to strengthen MMF resilience. The 2010 reforms introduced new minimum liquid asset and enhanced disclosure requirements. The 2014 reforms had two core elements: a floating NAV requirement for institutional prime and tax-exempt MMFs and new liquidity fee and gating provisions. The floating NAV requirement sought to reduce run incentives associated with institutional prime MMFs that maintain a stable NAV. Prior to the reforms, such funds typically rounded their NAVs to $1.00 if their market-based value was at least $0.995. This created a 'threshold effect' that incentivized investors to redeem if the fund's market-based value approached that threshold."
It tells us, "The latest reforms in 2023 removed the 2014 fees and gates requirement and introduced a dynamic liquidity fee requirement for institutional prime funds, among other changes. These reforms have affected the operation of institutional and retail prime funds differently: institutional prime funds now transact at a floating NAV (under the 2014 reforms) and have dynamic liquidity fee requirements (from the 2023 reforms), whereas retail prime funds continue to transact at a stable NAV and are not subject to liquidity fees. The heightened regulation for institutional prime funds reflects the magnitude of runs in these funds observed in 2008 and 2020."
The piece comments, "Partly because of past runs on prime MMFs and the SEC's reform responses, the composition of the MMF industry has shifted notably. Figure 1, Panel A shows that as the compliance date of the core elements of 2014's reforms approached, in 2016, assets in government funds surged while those in prime funds declined sharply. The share of total prime MMF assets in institutional funds also declined."
Regarding "Motivation," the study says, "Following the run episodes and subsequent SEC reforms, we examine whether retail prime investors' sensitivity to runs has changed. Given that these funds continue to transact at a stable NAV, increased sensitivity could lead to increased redemptions during stress periods, potentially amplifying future strains in short-term funding markets, as observed with institutional prime MMF redemptions in 2008 and 2020."
They explain, "We obtain daily MMF data on size, percent flows, percent of a fund's assets that matures within seven days, a proxy for Weekly Liquid Assets (WLA), and weighted average maturity (WAM), for institutional and retail prime MMFs from iMoneyNet.... Figure 2 shows the cumulative net flows of institutional and retail prime MMFs over a two-week period of heavy net outflows in 2008 and 2020. In 2008, institutional prime funds experienced cumulative outflows of almost 30 percent of net assets, like levels experienced in 2020. In contrast, cumulative outflows from retail prime funds, while significantly less than those from institutional prime MMFs, were larger as a share of funds' assets in 2020 than in 2008. Retail funds' net outflows in 2008 were about four percent of net assets, but 2020's outflows reached nine percent."
The paper concludes, "U.S. prime MMFs experienced large redemptions and runs in 2008 and 2020. During these periods, institutional and retail prime MMFs experienced bouts of shareholder redemptions, with institutional prime MMFs seeing greater outflows than retail prime MMFs. We examined differences in net outflows from retail prime funds, between the 2008 and 2020 runs, to assess if they have, on average, become more sensitive to stress events."
Finally, it adds, "We find that, on average, retail prime funds' outflows were substantially larger in the 2020 stress period than in the 2008 episode. In contrast, net outflows from institutional prime funds, which were substantially larger than those of retail prime funds, remained relatively unchanged, on average, over both periods. One interpretation of these findings is that retail investors have grown more sensitive to portfolio risks and more inclined to redeem shares under market stress. If so, retail prime MMF shareholder behavior may increasingly resemble that of institutional prime MMFs."
