Money markets’ $1tr exodus has an impact

Commercial-paper market fades as overseas institutions gravitate to short-term government assets

Regulators’ effort to stamp out risk in the $2.6 trillion (Dh9.5 trillion) US money-fund industry is creating unintended ripple effects across financial markets, with far-reaching consequences for companies and investors.

Far less cash than anticipated has returned to the higher-yielding slice of the money-fund world, after the overhaul that took effect in October led to a $1 trillion exodus from what are known as prime funds. They’ve been the principal buyers of the commercial paper that companies and both foreign and domestic banks have sold for decades to obtain short-term US dollardenominated financing.

By squelching demand from prime funds, commercialpaper rates relative to other money market securities have risen, and are now at the highest levels since the financial crisis, causing borrowers to seek new sources of funding like the short-term securities lending market. Investors are also feeling the pinch — most money funds are stuck with Treasury bills offering paltry rates. What’s more, the massive shift toward funds that can only buy the safest US debt has created the potential for a bottleneck if Congress is unable to resolve long-simmering disputes related to the nation’s debt ceiling.

“The biggest losers are financial institutions,” said Anthony Carfang, a Chicagobased managing director at Treasury Strategies, a consultant for corporations and financial-services providers. “US financials and non-financials have also been hurt. There are very few US corporations getting funding from prime funds.”

Tapped the market

The commercial-paper market is a shadow of its former self, with foreign financial issuance up only about $20 billion since November, as overseas institutions gravitate to high-quality, shortterm government assets to secure US dollar funding. Non-US banks lost $555 billion of US dollar funding from prime funds since December 2015, according to the Bank for International Settlements’ Quarterly Review published March 6.

The number of AA rated financial commercial-paper issues with maturity longer than 80 days has plummeted. Six issuers tapped the market March 29, compared with as many as 95 a day in March 2016, Federal Reserve data show.

“We’re in the middle of a long-term shake-up of dollar-funding markets,” said Blake Gwinn, a US rates strategist with NatWest Markets in Stamford, Connecticut. “We’re moving from a regime that lasted a decade or so and finding our footing for the next 10 to 20 years.”

The catalyst is US regulatory efforts to prevent a repeat of the run on money market funds that took place during the 2008 financial crisis, when the $62.5 billion Reserve Primary Fund had to “break the buck” due to losses on debt issued by Lehman Brothers Holdings Inc. That caused a panic among investors in other funds who went on to yank about $200 billion in about two days, nearly freezing credit markets.

The changes included institutional prime funds abandoning the long-held tradition of having asset values locked at $1-per-share. Holdings in prime funds fell to a record low $373 billion after the reforms went into effect in October, ICI data show. Since the implementation deadline, total prime fund assets have only rebounded by about $25 billion. Most of the prime outflows ended up in government-only funds, which were exempt from the changes.