Regulators’ effort to stamp out risk in the $2.6 trillion U.S. 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 U.S. dollar-denominated financing.
By squelching demand from prime funds, commercial-paper 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 U.S. 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 Chicago-based managing director at consultant Treasury Strategies. “U.S. financials and nonfinancials have also been hurt. There are very few U.S. corporations getting funding from prime funds.”
The catalyst is U.S. 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” because of losses on debt issued by Lehman Brothers Holdings. That caused a panic among investors in other funds who yanked about $200 billion in about two days, nearly freezing credit markets.
“We’re in the middle of a long-term shake-up of dollar-funding markets,” said Blake Gwinn, a U.S. rates strategist with NatWest Markets in Stamford, Conn. “We’re moving from a regime that lasted a decade or so and finding our footing for the next 10 to 20 years.”
While the SEC changes have reduced the odds of a repeat of a 2008-style credit-induced crisis, other unintended risks have surfaced, such as the concentration of money in government funds.
“Wherever you have those big dollars moving around, they themselves are a risk,” said Peter Crane, president of Westborough, Mass.-based Crane Data LLC.