March 2012

MONEY MARKET FUNDS: Security first and foremost

Safety-deposit-boxWith clearer definitions laid down by the European Securities and Markets Authority last year, Fiona Rintoul takes a closer look at how money market funds are recovering after the crisis. When is a money market fund not a money market fund? It used to be open to debate, with the term covering everything from ultra-safe AAA rated funds to riskier, less regulated products, which helps explain why some so-called money market funds self-combusted during the crisis. But last year, the European Securities and Markets Authority (Esma) laid down clearer definitions (see box). Now a key issue for money market funds is how to attract investors in a low-yield environment. “It’s sometimes very difficult to compete with other players who put emphasis on yield,” says Vincent Juvyns, a client portfolio manager at ING Investment Management. “Our biggest competitors nowadays are not other money market funds but banks which are sometimes desperately looking for funds.” It is hard for money market funds to match the yields banks are offering if the funds are, as Juvyns puts it, “investing in quality in the market”. What money market funds can offer, however, is safety. And that, increasingly, is what investors want. This is particularly useful for institutional investors that typically use short-term money market funds as defined by Esma (usually with the added benefit of a AAA rating and a stable net asset value). “Continued volatility in the credit markets, particularly in bank issues, combined with uncertainty in the European sovereign debt space, has led to greater utilisation of money market funds,” says Jim Fuell, head of global liquidity for Europe, Middle East and Africa at JP Morgan Asset Management. In an uncertain environment, investors in money market funds are putting security first. ”People are looking for a return of capital rather than a return on capital,” says Reyer Kooy, head of institutional liquidity at DB Advisors. Next comes liquidity, with yield very much in third place. “We must be a proxy for a bank account,” says Juvyns. “We must ensure daily liquidity.” Being a proxy for a bank account does not suit all fund managers, however. “We are not a bank,” huffed Andy Dickson, investment director at Standard Life Investments (SLI), as the group exited the money market fund sector last year. It claimed Basel II and Solvency II rules made running money market funds unattractive. SLI had earlier been fined for failings in the management of its Pension Sterling fund, which had plummeted in value during the 2008 financial crisis due to investments in floating rate notes. The SLI funds were mopped up by DB Advisors, which earlier in 2011 had merged the Henderson Liquid Assets Fund into its sterling-denominated Deutsche Global Liquidity Series fund after Henderson, too, decided to money market funds. As the regulations pile on, money market funds are, it seems, a sector of the market where size matters and companies must either commit fully or pack it in. Diversification
DB Advisors’ acquisitions allowed it to add €2 billion in seven months. “It’s a question of scale,” says Kooy. “It’s often quite difficult in a competitive market to build from the ground up.” Meanwhile, ING’s flagship Liquid Euro fund recently reached €6 billion, having nearly doubled in size since the end of 2010. But Juvyns says it will have to grow more. “It’s a very low-fee business. €6 billion is an important milestone, but to survive in this business we must have the ambition to grow to €10 billion,” he says. “We are investing in this business at a time when others are leaving it. Our ambition is to be one of the leading players.” Size is also an important selling point. Holding ratios are always an issue for investors, says Philippe Renaudin, head of BNP Paribas Investment Partners’ money market team. Recently, they have become more of an issue because corporates have more  liquidity further to a relaxation of reserve requirements by the European Central Bank. “Some of the institutional clients in our French funds have invested more than €1 billion,” he says. The bigger a fund is the less of an issue holding ratios are. Big funds have also proven to be more robust during periods of volatility, says Renaudin. “We had 20% redemptions in 2007 but managed to provide a high level of liquidity and performance.” Size also permits economies of scale and high diversification within the portfolio (and in the investor base, reducing volatility in assets under management). Diversification is another important consideration for risk-aware institutional investors looking for an ultra-safe, ultra-liquid home for their cash. BNP Paribas Asset Management seeks diversification within its portfolios in terms of sectors, types of instruments and geographic allocation, and typically has 100 to 150 lines in a portfolio. Over the past year, ING has been using its credit analysis team to find non-financial corporates that match its funds’ ratings constraints in order to mitigate money market funds’ natural bias toward financials. “We’ve also tried to look outside the eurozone at euro issues from the Bank of China and Nordic banks,” says Juvyns. And sometimes the investors themselves take steps to find diversification. “We have €1 billion which comes from France,” he says. “French clients like the fact that we are a Dutch asset manager and bring with that our home bias. We bring our Dutch view of the market with more Dutch and also Belgian issuers. Treasurers do not want to have more than 10% of a fund and they also want to limit their investment in one holder to 10%.” Bespoke solutions
This is all part of a more discerning approach by investors to these products, which are no longer seen as commodities. Differences in the credit analysis process and in the management approach are increasingly appreciated and understood by investors. “They are much more educated than five years ago,” says Fuell. This extends to knowing when to take on more risk. “Investors are always looking for the ability to increase incremental yield,” he adds. “Sometimes an investor doesn’t need daily liquidity yet wants capital preservation. Those investors may step out beyond money market funds.” And increasingly, says Renaudin, clients are looking for dedicated funds. “When clients need pockets of liquidity, they sometimes ask for tailor-made solutions. This is a trend for the future.” At the same time, money market funds are also expanding into new areas. JP Morgan Asset Management has introduced a renminbi fund for international clients with liquidity locked up in China. DB Advisors also has a renminbi fund and an Indian local currency fund, which is AAA rated by a local rating agency. The potential for the sectoris huge. “Outside the US, the money market space is in its relative infancy,” says Fuell. “Provided there are sufficient supplies of investment instruments, there are a number of jurisdictions where it’s very possible.” ©2012 funds europe

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