Money market fund managers see no end in sight to the record inflows they have garnered in 2023, as cash continues to pour in from investors hoping to take advantage of the highest yields available in years.
Almost US$1.19 trillion has flooded into U.S. money market funds since Jan. 1, 2023, according to flow tracker EPFR Inc., fuelled by the United States Federal Reserve’s aggressive campaign of interest rate increases. That is a far cry from negligible inflows in 2022 and well above the average full-year net inflow figure of US$179 billion for 2012-2022. The comparable figure for 2021 was US$429 billion.
Money funds typically hold short-term assets including government debt, whose yields have rapidly climbed as the central bank has turned the screws on monetary policy.
More than US$257 billion poured in between Oct. 31 and Nov. 30 alone, according to the latest available data, the biggest monthly inflow since U.S. banking ructions in March sparked a flight from ordinary deposit accounts. Those inflows have persisted even as markets are pricing in bets that the Fed will not raise interest rates again this cycle, and will cut borrowing costs as soon as the spring.
Money market fund assets hit an all-time high of US$5.8 trillion on Nov. 29, as investors continue to harbour doubts about long-dated debt.
Now, major fund houses including Goldman Sachs Group Inc. and Federated Hermes Inc. are predicting the torrent will carry through to 2024, fuelled by institutional investors trying to lock in returns as interest rates stabilize, and before the Fed starts to cut.
“I’m not looking at a big spring back” from money market funds, said Chris Donahue, chief executive of US$715-billion-in-assets Federated Hermes. “It’s more likely they’re going to get another trillion in than there’s going to (be) a trillion out. If we’re right that these rates are going to be here longer term, and that is the way it’s going to be for a while … then you’re going to get paid for being in the money fund.”
A selection of government retail money market funds was yielding as much as 5.02 per cent as of Nov. 30, according to data from the Investment Company Institute. A selection of government institutional funds was yielding 5.23 per cent, squarely in the middle of the Fed’s current target range for interest rates of 5.25 per cent to 5.5 per cent.
The latest available yield was even higher for “prime” institutional funds, which can hold riskier commercial paper, at 5.43 per cent.
Much of this year’s cascade into money market funds in the U.S. has been driven by retail investors rather than corporate treasurers, mutual funds and insurance companies. The latter typically invests directly in Treasury bills and other short-dated debt instruments as interest rates are on the way up, because they can capture the rise in yields more immediately.
But that changes “once the Fed stops and goes on a pause, and that interest rate has levelled out … then institutional investors are attracted to money market funds, because they do have the same yield as the underlying short-term instruments (and) they offer a lot of diversification for institutional investors,” Shelly Antoniewicz, ICI’s deputy chief economist, said.
Shaun Cullinan, global head of liquidity solutions at Goldman Sachs, agreed it was likely that institutional investors would join the surge into money market funds in 2024, driving additional inflows.
“You typically find that as the easing cycle begins … it’s very likely that the yield on money market funds will exceed the yield on the direct market investments,” he said. “You can see institutional investors pivoting into funds to achieve that higher return, because those funds have some embedded duration in them.”
Money market fund inflows in the U.S. this year have far outpaced those in Europe, where retail investors have a much smaller presence in the asset class. But Cullinan noted that the same dynamics may play out in the region next year, if monetary policy cycles align.
“We certainly haven’t seen the same amount of retail flows in Europe as we have in the dollar market, or in the States,” he said. “But we do see investors in the European markets, particularly institutional investors, engaged in direct markets. And if we see the European Central Bank embark on an easing cycle and European money fund returns exceed those of the direct market … then I definitely think you could see the same rotation occur. I don’t see this being a U.S.-only phenomenon.”
More broadly, Cullinan said “the trillion that came in this year was surprising, so we could certainly be surprised again next year.”
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While the Fed has not suggested it intends to cut interest rates anytime soon, slowing inflation and some signs of weaker economic data have prompted investors to bet on declines early next year. But those bets have been shifting rapidly as traders weigh the Fed’s official commentary with hints of cooling off elsewhere in the economy.
Cullinan said the amount of cash that pours into money market funds “depends on the pace of the easing cycle.”
© 2023 The Financial Times Ltd.