NEW YORK--(BUSINESS WIRE)--Recent money fund reforms and monetary policy implementation are placing smaller money fund managers at a competitive disadvantage relative to their larger rivals, according to Fitch Ratings.
Following years of fee waivers and forgone revenue driven by low interest rates, the costs arising from money fund reform implementation are proving too onerous for many small fund managers. This has led to acquisitions of smaller funds by larger rivals, liquidations of small funds and conversions from prime to government funds, which Fitch expects to accelerate as reform deadlines loom in 2016.
Recent acquisitions of mostly smaller money funds by BlackRock, Federated and Dreyfus, three of the largest US money fund managers, demonstrate the relationship between scale and efficiency in the money fund space. For example, Federated (ranked the fourth-largest US money fund manager by Crane with $211 billion AUM) over the past year took over management responsibility for approximately $4 billion of money fund assets previously managed by Reich & Tang, acquired $930 million of money funds previously managed by Huntington Asset Advisors and $100 million of money funds previously managed by Touchstone. In addition, Dreyfus (ranked the eighth-largest US money fund manager by Crane with $163 billion AUM) acquired $1 billion of money funds previously managed by Touchstone. After the Federated and Dreyfus transactions, Reich & Tang, Huntington and Touchstone were no longer active players in the money fund industry.
Fitch believes the high incremental operating expenses associated with complying with money market reforms introduced in 2014 will be a more significant burden for smaller fund managers than for their larger peers. These reforms are being phased in through October 2016. Based on discussions with industry participants, Fitch estimates incremental reform-related costs, such as infrastructure upgrades, legal fees, product development and client outreach could range from single-digit to tens of millions of dollars. This is particularly true for institutional prime funds, which will require more changes than government funds.
While smaller fund managers will generally have to spend less because of fewer products and clients that will require attention, in relative terms, they can spread the costs over a reduced asset base. This means they will incur higher costs as a percentage of assets, reducing their competitiveness and/or profitability.
Smaller funds also have limited or no access to the Fed's reverse repo program (RRP) given the Fed's asset size prerequisites to participation. The RRP is an important source of supply of government securities in a market where the supply of government paper is low relative to demand. Nineteen of the 20 largest money fund families (as tracked by Crane data) have at least one RRP-eligible fund compared with only five of the next 20 largest fund families having access.
In addition to increased supply of government securities, RRP access may provide a fund with a yield advantage as short-dated Treasury and Agency securities have at times been trading at lower rates than the RRP. The RRP has become a cornerstone of the investment strategy of many of the funds that are eligible counterparties for the Fed. Record participation from money funds at year-end 2015, at $472 billion, illustrates its importance.
Additional information is available on www.fitchratings.com.
The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article, which may include hyperlinks to companies and current ratings, can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.