Euro money market funds are faced with the prospect of low yields and a potential reduction in short-term debt supply following the European Central Bank's decision to lower the deposit rate, effective June 11, to a record low -0.10%. This is according to a new report by Moody's, "Money Market Funds Face Yield, Supply Challenges Following ECB Measures,". Soo Shin-Kobberstad and King Cheung, the authors of the report, say, "We expect that prime MMFs (those not restricted to investing only in highly-rated government securities) will continue to generate positive total returns. Following the ECB announcement, the Euribor credit curve shifted lower but remains positive and upward-sloping, allowing MMF managers to achieve positive gross yields on their funds. Rate cuts announced Thursday were anticipated by MMF managers, who had positioned their portfolios in advance of the 5 June ECB meeting to profit from declining yields. However, the extension of portfolios' duration also translates to greater fund sensitivity to interest rate moves." (See also, Reuters' "Funds keep faith with euro money markets".)
Moody's adds, "Following the last ECB meeting on 8 May, many prime MMFs had re-positioned their portfolios in the following manner: (1) reduced exposure to overnight liquidity; and, (2) lengthened the overall weighted average maturity of the portfolio by increasing exposure to longer-dated securities. By repositioning their portfolios through increased exposure to longer-dated securities and increasing the overall weighted average maturity (WAM) ... prime MMFs were able to increase total returns and reduce the risk of NAV share prices falling. That said, in taking these mitigating actions, MMFs introduced other kinds of risk, notably including higher duration."
The Moody's report authors add that low yields will remain a challenge for money fund managers. "MMF managers remain concerned about a potential supply/demand imbalance triggered by the TLTRO and suspension of SMP sterilization, which could reduce already low MMF returns. Although MMF managers are concerned that banks' issuance of short-term debt will decline because of additional excess liquidity, we expect that the policy changes announced on Thursday are unlikely to significantly alter the economic or financial outlook for the euro area."
A June 6 press release issued by Fitch Ratings titled "Euro MMFs are Prepared for Lower Market Yields" comments, "MMFs are likely to continue to look for yield-picking investment opportunities with longer dated assets, taking advantage of the steeper yield curves since end-2013. Euro MMFs have increased their allocation to assets with maturity of more than three months, during the first five months of the year. This move was most pronounced in May as most funds anticipated the ECB rate cut. MMFs' portfolios average lives extended to 58 days on average at end-May 2014, ten days longer than at the beginning of the year.... Should Euro MMFs post negative yields resulting from short-term market rate moves, this would not be a negative for MMF ratings by itself, including 'AAAmmf'."
The Moody's report continues, "On the demand side of the equation, MMF managers are preparing for the possibility of large inflows into MMFs if banks were to start charging negative effective interest rates on deposits held by institutional clients. Material new inflows pose a risk for MMFs because large amounts of capital invested at lower yields would dilute the returns for existing clients. Several MMF managers have said they would likely respond by limiting subscriptions in the event of large inflows. However, given banks' strong competition for deposits -- a relatively cheap and stable source of private sector funding -- we think it is likely that the ECB rate cuts will not be passed on one-for-one to households and businesses, and it is unlikely that large numbers of banks will charge negative deposit rates. Also, even in the unlikely event that banks would start to apply negative rates to deposits, bank customers might prefer to shift their funds to higher-yielding instruments other than MMFs. In this event, MMFs could experience outflows rather than inflows."
It further explains, "With respect to this risk of potential outflows, MMF managers note that, at present, investors on balance have a relatively inelastic reaction to low yields, because those investors are mainly core constituents, such as corporate treasurers, who need to manage large amounts of liquidity. In addition, some MMF managers believe that most investors sensitive to low yields have probably already reduced their investments or moved their funds altogether elsewhere over the last two years. For instance, assets under management (AUM) of euro-denominated prime constant net asset value (CNAV) funds have shrunk by approximately 30% from April 2012 to May 2014 amid significant uncertainties surrounding money market regulation and declining yields. Moreover, AUM in CNAV funds that invest only in government securities (government MMFs) fell by approximately 89% from the peak in November 2011 to May 2014 amid low yields."
According to Crane Data's Money Fund Intelligence International there have been inflows into euro MMFs since the ECB cut went into effect on June 11. The Crane Euro MMF Index for June 12 shows that euro MMF assets are up E205 million over the last seven days to E79.1 billion in the 98 Euro-denominated MMFs Crane tracks. The average 7-day yield for Euro MMFs dropped 0.02% to 0.09% over the last 7 days. Further, weighted average maturity is at 47 days, up 2 days from 7 days ago. The largest manager of euro MMF assets are BlackRock (E17.2B), Goldman Sachs (E13.1B), JP Morgan (E11.0B), Deutsche (E9.4B), and BNP Paribas (E8.1B). Crane Data will release its MFI International MF Portfolio Holdings on Monday morning, which will show whether Euro money fund portfolios changed their investments markedly in May.
The negative and ultra-low yields on Euro securities will no-doubt be a hot topic at the upcoming Crane's European Money Fund Symposium, the largest money fund conference outside of the U.S. Our second annual event will be held Sept. 22-23 at the London Tower Bridge Hilton in London, England. Crane Data's first European event, held last September in Dublin, attracted over 100 attendees, sponsors and speakers, and we expect our London event to be even bigger and better. Registration for our 2014 European Money Fund Symposium is $1,500 (or 900 GBP). Registration is open and sponsorships are still available. Visit http://www.euromfs.com to register or to see the latest agenda. Contact us for sponsorship information or more details.
