Month in Cash: Fed likely to keep lid on rates for some time
Repo rates and overnight rates have been pretty static at around 20 to 22 basis points. We saw a slight dip late in October into the high teens, but only for a few days. They’ve been holding on nicely through the past quarter and have even been up compared to where they were in the early part of 2012. But we expect those rates to decline as we head toward the end of the year and for that trend to continue into 2013. That means we’re likely to see a slight decrease in the overall gross yields for government funds. The reason is twofold: First, the Federal Reserve’s “Operation Twist” is coming to an end. Although only a mild positive from a rate perspective, it has put additional collateral into the marketplace and has held rates a little bit firmer than they might have been otherwise. In addition, the Fed’s promise of open-ended purchases of mortgage-backed securities will take those instruments off the market, leading to declining rates overall, including repo rates.
Yields also are expected to decline for prime funds, but for a different reason. The Libor/cash-yield curve has come in drastically and flattened, partly as a result of the health of the European banks and improvements in the overall credit markets. While that’s a good thing from an economic growth perspective, on the spread basis, we are getting less spread for the issuers today versus what we had been seeing.
FDIC insurance reductions and money funds
We’re also closely watching the potential Dec. 31, 2012 expiration of the FDIC’s unlimited insurance on non-interest bearing checking accounts. Of course, that wouldn’t mean that all coverage would cease, just that we’d revert back to the $250,000 per account limit per account in force prior to 2008. It would take some sort of affirmative congressional action to change this scenario, but don’t count out powerful lobbying by bankers’ associations who hope to have the unlimited coverage extended and keep those assets in those community banks.
If in fact unlimited insurance does expire, the larger higher-quality banking institutions will probably see little change. Less creditworthy smaller institutions, however, might face new competition, with their investors likely looking for a new home for that cash. Probable destinations would include shorter-term securities from those particular institutions, direct-market Treasury and agency securities, and, of course, money funds that invest in Treasury and agency securities. Those investors are interested in alternatives that feature similar risk with governmental support, similar return and similar liquidity characteristics.