What’s Behind the Money Fund Asset Surge?

Money market mutual funds continue to gain assets at a dramatic pace, rising by $171 billion since the commercial paper market squeeze began the first week of August. Year-to-date, money funds  have grown by an incredible $447 billion — already a greater increase than 2001’s $440 billion increase, the recordholder for the largest single year asset gain. Where’s all the money coming from?

Market commentators usually say “flight-to-quality”, but this makes little sense when one looks at the overall stock and bond markets, which haven’t really declined. Certainly, we’re seeing inflows from banks, bonds, and particularly CDOs and esoteric securities. Undoubtedly money is also moving away from more aggressive hedge fund, private accounts, and market neutral strategies — hedges which haven’t hedged and which have seen a number of accidents. But the overall carnage has been far lighter than news reports would have one believe.

I think the answer of what is driving money fund flows and what’s been driving money fund flows is the same as it’s been. A growing economy throwing off more cash, higher 5% rates generating higher income, and a continued rebound from record low levels of cash both in corporate coffers and in investment portfolios. (Contrary to popular reports, I believe companies were holding near record low levels of cash, and certainly stock funds are holding record low cash.)

Money funds likely continued to take money back from banks and from brokerage “bankerage” sweep programs. While we may see a rate cut on Tuesday, money funds continue to hold a gigantic yield advantage over their bank competition, Countrywide’s of the world exempted. I’d love to hear your thoughts and to delve into the recent surge in more detail. E-mail me at pete@cranedata.us with comments, or post away!

Lessons from The Recent Money Market Scare

While it perhaps may be too early to declare victory and say that money funds have made it through the recent CP Market Seige unharmed, it’s never too early to start learning lessons from crisis (since the next one may be right around the corner!). Here are some initial observations.

1) Money funds are clearly able to withstand significant shocks without endangering their $1.00 NAVs. While there may end of being more than one “takeout” where fund advisors purchase troubled securities at “par”, or above-market value prices, no fund was ever in real jeopardy of dropping to $0.99. Even some of the funds holding extendible securities said they “couldn’t taken a lot more stress” before their stable value was threatened.

2) Don’t believe everything you read or see. While the media may be getting more criticism than they deserve due to the fact that they were being misinformed by interested parties, they deserve plenty. Don’t forget to differentiate though. CNBC and Bloomberg got things wrong, oversensationalized and likely even caused the majority of the panic, while The Wall Street Journal kept things sane and factual.

3) Money fund advisors, CP and ABCP dealers need to speak up. Money market funds, which could have done a much better job prior to the crisis in educating their non-institutional investors on commercial paper and ABCP, were nowhere to be found when the crisis broke. Some were out talking, but most merely denied that they held certain troubled securities. Companies must let fund managers, who are the only ones who know why these things are safe, speak up. And dealers must defend their product. Imagine if a Tylenol was found with poison and the company responded with a “No comment!”. Where were/are the ABCP issuers and dealers saying their product is safe?

4) More disclosure is needed. Though this is always the answer and rarely helps, this one will be a layup. We’ll also likely get less complicated structures, because even with disclosure few can understand what some of the asset-backed CP and ABS are. Expect to sleep through a number more seminars going forward.

5) You can’t get more yield with the same risk. Competitors to money market funds are the real losers in “Shorts’ Great Credit Squeeze Gambit” of 2007″. Money market funds already are seeing competitors’ money pouring in, and it’ll likely be a very long time before LIBOR-plus funds, separately managed accounts, direct investment in money market securities, ultra-short bond funds, stable value funds, enhanced cash funds and other “yield-plus” strategies are able to regain the confidence of investors.