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A new era for European Money Market Funds? Maybe…

It took more than three years to EU Commission to produce the final version of MMF reform. The MMF reform has been highly criticized. The American wanted to maintain the Constant NAV MMF’s when regulators wanted to get rid of them. In Europe, we have decided to opt for an intermediary solution.

The Government funds can remain at Constant NAV. But they have introduced a new format: the LVNAV standing for Low Volatility NAV. It operates like a CNAV fund. It is a sort of compromise and an alternative solution. It will be applicable in 2019. So far, the ST MMF’s represent 60% of all MMF’s, out of which 80% are at constant NAV.

The LVNAV is therefore a good compromise between full constant NAV (i.e. government funds) and the VNAV ST funds. The sunset clause has been removed (good news!) and the liquidity requirements reduced. There are a liquidity fees and a redemption gates provision to be respected.

Is this reform the reason to review its investment policy?

It may be useful to revisit again his/her asset management policy to make sure it is compliant at least with the reform. Furthermore, it is important to get validated by Treasury Committees types of products we will be authorized to invest in and to contemplate way of booking them. If you were only used to CNAV, now you’ll need to consider how to book and report on VNAV funds. In terms of “cash & cash equivalent” qualification under IAS 7, I do not foresee major issue. Conversely, persisting negative interest rates may be more an issue. We could be tempted to propose to CFO’s other longer duration products in order to avoid booking losses with negative returns or to mitigate (negative) impacts on the P&L. I am more worry about the potential longer term period of negative EURIBOR rates rather than the reform itself.

Do we believe such a reform could modify the market landscape?

It will have some impacts. However, maybe lower than initially thought. The fund managers will have to adapt their offer to comply. In my opinion, the changes will be minor and at the end of the day, they will continue to invest in MMF’s. Nevertheless, low returns and negative short term rates could push treasurers to revisit their policy and strategies accordingly. A risk of impact balanced by an opportunity to propose an alternative investment policy. Why not proposing investment of a small portion of the portfolio (i.e. excess cash), the more strategic one, into products with longer term horizon and longer duration in order to extract some (limited I confess) yield or in order to avoid booking realized losses? It is a perfect opportunity to at least try to suggest Management to open doors to alternative products with higher volatility, longer time horizon but potentially better return.

What could be the impacts on the industry of MMF’s?

That is the trickiest question for corporates. In my opinion, current situation could push MMF providers towards another stage of consolidation of the industry. I would not be surprised to see less players but at a larger scale. We could end-up with few very large players and small specific boutiques, like the French funds. Automation, synergies and scale economies could help the industry and justify consolidation. The offer could also extend from “AAA” rated to “A” (rated or assimilated to) or even further down to “BBB” funds in order to compensate negative rates by lower rating (while remaining acceptable in terms of risks). I think the range of ratings will be larger to offer alternative solutions to corporates. Again, it is not a magical recipe but a way to limit damages. I am convinced the negative and low interest rate period could last for long. If so, it will have impacts on profitability of MMF’s and (negative) returns of investors. Even if return is a relative thing, being negative and destruction of value is not the best thing in the medium run. In my view corporates will adapt their strategies, slice their excess cash into layers with different time horizons in order to adjust product to each bucket and all-in try to limit as far as possible negative impacts / results.

I don’t think Government funds (with too negative returns) and bank deposits (with higher credit risk and higher risk concentration) are the solutions to compensate the change in types of funds. Gradually, market will adapt to new fund formats and accept the VNAV. I always thought that a CNVA has no real advantage on VNAV. How could we claim a fund is at constant value with negative interest rates and when the fund provider ask you to accept potentially to cancel shares? Cancellation of shares is the way to preserve CNAV artificially. In a normal environment, CNAV could be defendable. In a negative interest rates one, it cannot. Economic context ha just proved that it doesn’t make sense. On the question of the reason for getting rid of CNAV funds and their partial responsibility in the financial crisis, I am not convinced at all. EACT has always recommended to preserve both types of funds to respect habits and uses of its members. Eventually, the reform proposed by EU is not that bad and certainly much better than the US reform, in my view.

We will follow with interest the market evolution and changes in investment policies if any. It will certainly be interesting and as a good consequences of negative rates, it will force a complete rethink of each one asset management strategies.

François Masquelier, Vice Chairman of EACT – Luxembourg January 2018

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