|
|
51. i) Do you agree with the above assessment of the difficulties faced by MMFs during the COVID-19 March crisis? Do you agree with the identification of vulnerabilities? ii) What are your views in particular on the use of MMF ratings by investors? Are you of the view that the use of such ratings has affected the behaviors of investors during the March crisis?<ESMA_QUESTION_MMFR_1>i)
At the beginning of the COVID-19 pandemic, the outlook of a potential economic crisis triggered signifi-cant risk aversion and the demand for cash started to increase (ESMA report on Trends, Risks and Vul-nerabilities, September 2020, p. 29). As a result, market liquidity came under pressure and fell sharply, not only for riskier assets, but briefly also in high-quality markets, such as the US Treasury and money mar-kets, as both financial and non-financial sectors demanded cash (ECB Financial Stability Review, May2020 p. 7 and the respective graphic 1 in our attachment). European investment funds experienced out-flows for different fund types, including, but not limited to, Money Market Funds (MMFs) (ESMA report on Trends, Risks and Vulnerabilities, September 2020, p. 35 and the respective graphic 2 as well as graphic 1 in our attachment). In this context also some segments of the EU short-term MMF industry faced liquidity challenges, in partic-ular LVNAV MMFs while CNAVs recorded high inflows and VNAVs overall limited outflows although indi-vidual VNAV funds may have been subject to large outflows (ESMA report on Trends, Risks and Vulnera-bilities, September 2020, p. 32 and the respective graphic 3 in our attachment). In general, outflows were amplified by seasonal, quarter-end factors in view of non-financial corporate investor redemptions in the second half of March, whereas those of other clients segments remained more stable (see e.g. EFAMA, European MMFs in the Covid-19 market turmoil, November 2020 p. 11). In this context, we would like to point out the market impact of quarter end balance sheet pressures on liquidity. As banks reduce their bal-ance sheets approaching reporting period ends, this directly impacts both the amount of liquidity a MMF can hold in the fund, and also how liquid the market is. Redemption pressure timed ahead of a quarter end was in our view a material factor in the lack of liquidity in markets. Among the outflows, the ones from both euro and USD-denominated funds were significant, especially USD-denominated LVNAV funds, while preliminary USD-dominated CNAV funds received net inflows (ECB Financial Stability Review, May 2020, p. 86 f.). This could also be observed for Luxembourg MMFs(IOSCO Thematic Note, Money Market Funds during the March-April Episode, November 2020, p. 8 and the respective graphic 4 in our attachment).In the USA, similar developments took place with a large rebalancing between Prime MMFs and Treasury & Government MMFs (here and the following: ESMA report on Trends, Risks and Vulnerabilities, Septem-ber 2020, p. 32 f.). The US Federal Reserve started to support US MMFs through lending facilities for dealers purchasing assets from MMFs, the so-called “Money Market Mutual Fund Liquidity Facility” and through outright purchases of money market instruments via the “Commercial Paper Funding Facility”. In the Euro area, the European Central Bank (ECB) put in place a purchase programme of commercial paperissued in euro by non-financial corporates, the so-called Pandemic Emergency Purchase Program (PEPP). However, it has to be noted that European USD MMFs were neither eligible for the US Federal Reserve facilities, nor for the ECB Commercial Paper programme. Overall, the PEPP only provided limited support to MMFs as it covered only debt issued by non-financial companies and denominated in euro whereas European MMFs invest predominantly in commercial paper and certificates of deposits issued by financial institutions and denominated for the most part in non-euro currencies (EFAMA Market Insights October 2020 – Money Market funds in Europe – State of Play, p. 6). According to our understanding, the Central Bank intervention also rather aimed in the first place at addressing systemic risks in general that arose during a market liquidity crisis than at addressing risks in MMFs in particular. At the end of the first quarter 2020, the situation relaxed and inflows into MMFs were observed as graphics 1-3 show.Even though there was neither a direct support of European MMFs by the US Federal Reserve via its pro-grammes nor a broad support by the ECB via the PEPP, their quick reaction helped to maintain investor confidence in the market and thereby limited the impact by investor behaviour. However, the intervention may have led to the impression that MMFs were not resilient enough.In this context, we do not agree with Paragraph 22 which states markets are not very liquid even in normal times. In normal market conditions there is sufficient liquidity. The portfolio construction of MMFs organically
6has high levels of liquidity as it holds at least 30% WLA. Assets within the WLA will generate cash due to natural maturity schedule without the sale of any position. Therefore, the need to sell to meet redemptions from investors is very limited in normal times due to the nature of the instrument. Moreover, it should be noted that short-term European MMFs entered March 2020 already with weekly liquidity levels well above their regulatory minima and that the average liquidity levels for the whole first half of 2020 remained at around 50% (EFAMA, European MMFs in the Covid-19 market turmoil, November 2020 p. 17). In addition, it is worth mentioning that when the crisis evolved, the demand for cash resp. liquidity existed predominantly in the US, as the existing market conditions had already been tighter and the banking system did not contain reserves in the same way as it was the case in the Euro area (ECB Financial Stability Review of May 2020, p. 39). Moreover, despite the liquidity challenges faced by European MMFs, none of them had to introduce re-demption fees or gates or suspend redemptions during the market turmoil in March 2020 (ESMA report on Trends, Risks and Vulnerabilities, September 2020, p. 34). This as well as the quick recovery show that the systems operated well. The crisis was rather an evidence of the resilience of the MMFs in Europe and does not per se justify any amendments to the MMFR.ii) Ratings are an important tool helping investors as independent checks. However, ratings are not the only basis for investors’ interest in MMFs. Furthermore, ALFI is of the opinion that credit ratings were not the driver during this crisis to redeem shares, which was a liquidity crisis (in view of a pandemic) rather than a credit crisis as experienced in 2008. It is also important to understand the particularity of MMFs that preliminary corporate investors are choosing them looking for returns. In this context, the “know your cus-tomer provisions” under art. 27 MMFR were of great help to better understand the nature of these inves-tors and anticipate their behaviour. The investor redemptions during the crisis impacted LVNAV funds as well as Euro Standard VNAV funds. Euro Standard VNAV funds are predominately not AAA rated which allows them to take incremental risks in order to offer a higher yield as result which is what their core tar-get investors seek. Whereas, AAA MMF investors seek to preserve capital and access to liquidity with yield being a secondary consideration....more at ALFI