This is Debbie Cunningham Chief Investment Officer for Liquidity Markets at Federated Hermes.
How have liquidity markets fared since the COVID-19 related volatility?
The liquidity markets, really like all market sectors, have found these times challenging yet they've been functional. Secondary market liquidity which is measured by bid ask spreads, went to very high levels in March and basically with the uncertainty of the pandemic unfolding daily, the Fed took note of this, and they added liquidity to these high quality short-term market sectors. They started in the government money markets, here they started with buying programs for treasuries and government agency securities, and they did this both directly, as well as through the repo market place.
They next moved on to the prime money markets, and here they concentrated their efforts on adding liquidity to the commercial paper, asset back commercial paper, and CD marketplaces, and they did this through the facility of the MMLF, the Money Market Liquidity Facility, they also added for the benefit of those markets, in addition to the broader markets, the PDCF, which is the Primary Dealer Credit Facility, to be able to open up dealer's balance sheets, so that they had a little bit more room for being secondary market makers in that environment. And not to exclude any particular sector, they then moved on to the tax-free sector, and they broadened their support by taking the Money Market Liquidity Facility, the MMLF, and opening it up in addition to high-quality taxable securities, but to now to include high-quality, short-term municipal securities, as well as, variable-rate demand notes, both of which are used to a large degree in tax-free money market funds.
Throughout this timeframe, the market makers, the issuers, and the investors gained confidence, not only because of what was happening directly in the market but what the Fed was doing in supporting the market. So much so, that when you looked at the end of the quarter, money market funds had gathered 689 billion in inflows, additional assets that came in to the industry, a record for the industry in gathering assets. Since then, inflows into the liquidity sector have continued. They've actually gained a little bit more from a diversification perspective. In the first quarter, they were centered around the government sector, but since then they've gained, gained traction and diversified in to including, and including the prime and the municipal sectors which are also gathering assets at this point in time.
From a rate perspective, the government money market yield curve is positively sloped by anywhere from 15 to 20 basis points and although it's at very low levels, the slope is something that is important to be able to look at a yield curve that is functional and provides liquidity. Prime spreads over the government money markets, have come down off of what were very, very high levels in March, north of 150 basis points to something that's more close to a 50 basis point, maybe even slightly lower than that level. Tax-free money market funds and yields out pace taxable yields, even on a before-tax basis for much of the second half of March. Those have also retreated though and are now looking much more normalized, but yet still offering value on an after tax basis, versus their taxable counterparts.
Disclosure: Views are as of 4-29-20 and are subject to change based on market conditions and other factors. These views should not be construed as a recommendation for any specific security or sector. Past performance is no guarantee of future results. Federated Investment Management Company 20-40220 (5/20)