Paris/London: The European Central Bank’s decision to cut its deposit rate and extend quantitative easing is likely to push euro money market fund yields further below zero, adding to the challenge funds face in maintaining assets under management, Fitch Ratings says.
Very short-dated eurozone debt yields have continued to fall following the ECB decision, while rates above three months have risen, as markets had been expecting an even greater expansion of QE or a bigger cut in the deposit rate. But MMFs’ significant exposure to the very short end of the yield curve means the overall impact will be negative. Yields had also been steadily falling ahead of the decision and the recovery for maturities above three months is only modest.
The key risk for ratings arising from negative MMF yields is the potential for large redemptions by investors unwilling to accept “paying” for a fund to hold their assets. MMF yields’ negative turn in 2Q15 resulted in outflows and increased volatility in assets under management as investors switched money between funds. Investors have since begun to accept negative euro MMF yields, however reluctantly, as they lack low-risk alternatives. This was demonstrated by modest inflows in 3Q15, after three months of outflows.
A further drop in short-term debt yields would probably feed through into increasingly negative MMF yields quite rapidly. This is because funds have limited capacity to further lengthen their maturity profiles and because the yield curve is still relatively flat, so even if they can increase the average maturity, the benefit will be minimal. This could lead to further volatility. The report argues that large outflows are unlikely due to the lack of alternatives, but redemptions could still result from investors choosing to reassess the division of their cash investments between operational and strategic cash.
For more information on the impact of negative yields for euro MMFs, and to discover Fitch Ratings expectations for regulatory reform and consolidation in the sector, see “2016 Outlook: Money Market Funds”, available at www.fitchratings.com.