Month in Cash: When $1 isn't equal to $1


As money market reform neared last year, many investors voiced concern about the possibility that the floating net asset value (NAV) of institutional prime and tax-free money funds could slip below $1, or more specifically below the new $1.0000 reporting standard. Unlike stable NAV products, these institutional fund shares could lose actual value.

It was a legitimate worry, of course. But it turns out that since the recent reforms, floating NAVs across the money market fund industry largely have been fractionally above $1 (most coming in the fourth decimal place). That has led to a common question: Are we required to manage our funds to pull these FNAVs down to $1.0000? The answer is simply no.

The confusion is understandable. For decades the tenet of money funds has been that shares remain at a dollar, with managers permitted to round by the penny to stay there. There is no such restriction for institutional prime and municipal money funds. Their floating NAVs can end each trading day higher or lower than $1.0000, increasing or decreasing total return.

So, we don’t set out to exceed a dollar; it is just a function of how we manage. We make decisions based on our fundamental research about the credit of the issuers, our economic outlook and our predictions for Federal Reserve policy. That can result in NAV appreciation or depreciation. But we don’t consider the former a positive or the latter a negative—just the result of what value the market is providing at that time. That being said, it would take a major market moving event to pull the currently elevated NAVs down significantly. Movement either way likely will be gradual.

Why have floating NAVs risen in the first place? Usually when interest rates rise, prices go down. We think it’s been due to a combination of the dramatic appreciation of floating-rate securities in late 2016 and early 2017, and enlarged spreads between government and prime securities—both a result of the reforms. The spread contraction that followed was exacerbated by a mismatch between supply and demand in the money markets. Balancing that, yields on fixed-rate securities increased as the Fed has tightened in recent months, but not as much as we have seen historically. It will be intriguing to see if this continues as policymakers appear set to raise the target rate again in June to a range of 1% to 1.25%.

The Fed also is expected to discuss at its June meeting how and when it will pare its huge balance sheet. Most likely the route will be letting a small amount of securities mature without reinvesting the principal. The markets have been calm about this because policymakers are really jawboning to get people’s expectations to where they want them to be before they actually set a schedule.

For the time being, the short end of the yield curve has flattened to the point that it is not worth the maturity risk to invest out any distance. We pulled in the target weighted average maturity (WAM) of our government money funds by five days, bringing it in line with our municipal funds’ WAM of 30-40 days, and kept the target WAM of 35-45 days for our prime products.