When the Federal Reserve adopted a zero-interest rate policy (ZIRP) in the past, it was meant to be the ultimate economic stimulus package. The (arguably) unintended consequence is that by taking short-term interest rates down to a range of 0.00% to 0.25% and leaving them there for almost the entirety of Janet Yellen’s career as the chair of the Federal Reserve is that it squeezed investors into no earnings at all in the cash and short-term deposits.
One issue that came up after the financial crisis was the fear of “breaking the buck,” whereby money market funds were earning such low rates of interest that any management fees and any operating costs at all would take the net asset value of a money market fund below the $1.00 stated price. Now that the Federal Reserve did its emergency rate cuts back to the ZIRP level of 0.00% to 0.25%, there is some evidence that breaking the buck could be an issue again.
Vanguard announced on Thursday that it was closing off the $39.5 billion Treasury Money Market Fund (VUSXX) to new shareholder accounts. The company did not say that it was losing money on the accounts and did not say that fees and other efforts were causing it to break the buck. Vanguard noted that was “seeking to protect existing Fund shareholders from high levels of cash flow that could potentially accelerate reductions to the Fund’s yield.”
Vanguard did not close off this money market fund entirely. The release from Vanguard said that existing shareholders of this fund can continue to make purchases with no limits. This is also not Vanguard’s largest money market fund, and the fund also is nowhere near to being in the top money market funds available.
As of this date, the website MutualFunds.com showed that there were 14 different money market funds that had $100 billion or more in assets. The Vanguard Federal Money Market Fund was also much larger at over $183 billion in assets, followed by the Vanguard Prime Money Market Fund with more than $124 billion in assets.
To put this in perspective, assume for a moment that the average yield of a short-term Treasury bill or equivalent agency paper maturing in less than one year is a theoretical 0.10%. Now take an acceptable management fee from any money management firm at say 0.20%. The end result after a year is a net return of −0.10% for the investor who was parked in that money market fund.
The good news here is that Vanguard did not include all its money market funds in the release. Vanguard said that prospective investors may still invest in its other portfolios of $414 billion in its low-cost lineup of other money market funds. Those were shown to include the Vanguard Prime Money Market Fund, Vanguard Federal Money Market Fund and its national and state-specific tax-exempt money market funds.
Another issue that happens under a “breaking the buck” scenario is that it effectively acts similar to negative interest rates seen in Europe and Japan. That means getting back something less than the $1.00 that was put into the fund.
Unfortunately, when money market funds do break the buck, it generally indicates stress in the financial markets. There was a brief period during the stock market panic that there were negative interest rates in the Treasury market, but that was due to the market more than to any formal interest rate and monetary policy actions.
Before investors start panicking about losing money in money market funds, they should be aware that there is really not that much news on this scenario. Yahoo! Finance had a report on March 18 that the Treasury was proposing to guarantee money funds, and that was echoed on CNBC on March 20. On March 24, it was reported on Dow Jones News that Goldman Sachs had to step in to shore up two of its own money market mutual funds.
On last look, yields on the short-dated Treasury bills were 0.14% for a one-month bill, 0.15% for a two-month bill, 0.14% for a three-month bill, 0.18% for a six-month bill and 0.17% for a one-year Treasury bill. That said, the Treasury yields were only 0.20% for a two-year note and 0.25% for a three-year note. In April, the one-month note carried only a 0.03% yield.
This shows how touchy it can get when investors have to pay management fees to keep those money market funds in business and can end up costing themselves money rather than earning interest. This also shows just how much of a squeeze it puts on the earnings of brokerage firms, custodial and savings institutions and other financial institutions due to not being able to keep any of the spreads in their clients’ short-term deposits.
Investors probably don’t have much to worry about losing money in their safest money market funds over time. Then again, that all depends on the markets and economy remaining stable.
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