No surprises this time
Fed Chair Powell stuck to the script at the central bank symposium.
Last year, Covid-19 kept the world’s central bankers from their annual retreat in Wyoming for the Federal Reserve’s economic policy symposium. The Fed used the opportunity to release a major revision of its “Statement on Longer-Run Goals and Monetary Policy Strategy.” Chair Jerome Powell outlined a new framework that tolerates inflation above the Fed's preferred 2% target until the labor market is sufficiently strong.
Powell’s keynote address this year was again delivered remotely, but was much less newsworthy. Citing improvement in both inflation (“substantial progress”) and employment (“clear progress”), he reiterated that the Fed could begin to taper bond purchases this year. That position had already been communicated, but it still was good to hear. If the delta variant doesn’t worsen and the economic recovery doesn't stall, we could very well see the Fed exit the marketplace by the end of 2022. That would be welcome, with supply of Treasuries being so tight.
Perhaps the most telling part of Powell’s speech was the cold water he threw on any optimism the Fed will raise rates soon: “The timing and pace of the coming reduction in asset purchases will not be intended to carry a direct signal regarding the timing of interest rate liftoff.” The economy, he said, has a “substantially more stringent test” it must pass for that to happen. But we all knew this, so its characterization by the market as being “dovish” is misplaced.
The rate move that the Fed has made—raising the floor on overnight rates—has continued to help cash managers. With the Reverse Repo Program (RRP) setting the floor at 5 basis points, traditional repo market rates consistently fell between 5 and 6 basis points in August. Usage of the facility remained at record levels. The latter is in part due to the loosening of the criteria to be a participant, with more funds, primary dealers, banks and the like being added. The elevated use also reflects the lack of resolution on the debt limit, which has only made Treasuries more expensive. This should not be an issue, but that’s the nature of politics. The markets have begun to speculate on when the Treasury Department’s extraordinary measures will run out. Everyone knows a deal will be done, yet it looks like we are in for some bumps in the road. But with every bump comes a potential opportunity.
There’s still plenty of work ahead on money market regulations. A week doesn’t go by without new comments and speculation. It is our opinion that, despite listening to everyone, regulators truly aren’t interested in reforms that would kill entire sectors of the market. The longer the conversations on the topic go, the more likely the outcome is better for the money markets.
Construction appears to be closer to concluding for the market’s transition from the London interbank offered rate (Libor). The Fed’s Alternative Reference Rates Committee officially recommended some benchmarks tied to the Secured Overnight Financing Rate (SOFR). None of our liquidity products, and probably few others, have exposure to Libor-based instruments past December. We continue to find value in floaters using SOFR and the Bloomberg Short Term Bank Yield Index (BSBY).
Across the industry in August, government money market funds saw inflows, with prime and tax-free experiencing small outflows. Our liquidity funds stayed in weighted average maturity (WAM) ranges of 35-45 days for government and 40-50 days for prime and municipal.