Federated's Cunningham on Fed Drama
Federated Hermes writes "Don't be distracted by the Fed drama," which is subtitled, "For liquidity investors, the Fed decision to pause cuts matters more than Powell and Trump locking horns." Author Deborah Cunningham explains, "We want inflation to fall while the economy and labor market remain strong. Everyone deserves this, and it's the reason the Federal Reserve decided last week to pause its rate-cutting cycle, leaving the fed funds target range at 4.25-4.50%. But investors in liquidity products have benefited from the elevated interest rates and should continue to if the pace of easing slows. The yields of most securities that funds and other vehicles hold are based on the market, rather than administered, meaning they tend to track the Fed moves." She says, "There's no better way to see this than looking at the recent asset flows into industry liquidity products since the Fed's December rate cut and year-end 2024. Offshore/European money funds are experiencing the same growth, hitting a record high of $1.463 trillion recently, according to Crane Data, despite the European Central Bank and the Bank of England cutting rates." Cunningham continues, "But holding rates steady is not the only way the Fed can help cash investors. Its Reverse Repo Facility (RRP) offers an overnight rate for securities set at or above the lower bound of the target range. It allows money market funds managers (not every liquidity product qualifies) to borrow from the Fed to ensure they receive adequate compensation for most securities they buy. I bring this up because, after years of setting the RRP level at five basis points above the lower bound, in December, the FOMC set it at that lower band, i.e., at 4.25% rather than 4.30%.... The good news is that market participant usage of the RRP has dropped significantly and marketplace rates have been generally higher. It is also due to good old supply and demand. At present, the marketplace has enough of the former that sellers must offer higher rates. But supply is going to dwindle if the federal government doesn't raise the country's debt limit, pushing rates down. Get it together, Congress."
