Category Archives: Funds

Posted on by

Financial stress metrics rising, some claim rigging

Insurance on French and Austrian 5-year debt paper is rising and it is more than twice as costly to insure these sovereign bonds against default then those of Germany or the UK.

While it is good to know that the level of risk for these bonds is going up, there is still some doubt as to whether holding CDS on sovereigns makes any sense considering that those who held Greek CDS got hung high and dry by government’s claim that the 50% reduction of Greek debt was not a default event.

Since there is some doubt as to whether Credit Default Swaps even matter anymore, some wonder whether another stress metric, Libor-OIS, is little tainted.

The problem may not be with the OIS, the overnight indexed swap, but with the Libor.

“The whole [Libor] system is rigged. The banks are able to say, ‘Let’s just collude and set rates, and we have the sanction of the authorities to do it.’,” says Tim Price, who helps oversee more than $1.5 billion as director of investment at PFP Group.

So, if Libor rates are too low by collusion is the spread narrower?

So we turn to the spread between floating rate agreements and the overnight indexed swap, or the FRA/OIS.

Since May, this metric has more than tripled and it stands roughly half way between 2008 panic-highs.

When this spread was at 27 back in June, Michael Darda was pointing at it as a “stench” of a systemic risk event that could lead to a bank run.

Now that this metric is at 70 and going higher daily, it’s meaning becomes more self-explanatory.

Posted on by

Redemptions mount in Money Funds

Last year, President’s Working Group on Money Market Funds Reform noted that this market, the MMF, is vulnerable to runs because it “attracted highly risk-averse investors who are particularly prone to flight” and as such they have “an incentive to redeem their shares before others do when there is a perception that the fund might suffer a loss.”

“MMFs are subject to credit, interest-rate, and liquidity risks,” noted the report.

Given the debt-ceiling theater in Washington, all three are wobbly and MMF money is pouring out at a record rate.

“Withdrawals reached $37.5 billion, with about 70 percent of the redemptions coming from institutional funds that invest in U.S. government securities,” reports Bloomberg.

During the heights of the 2008 panic, some $500 billion was redeemed out of the MMFs so, to be sure, this is not a run, but with the US credit at risk of the ratings downgrade, which can push the interest rate up and cause liquidity if withdrawals swell, some money figures to come off to secure MMFs net asset value or NAV.

By the Investment Company Act of 1940 (ICA), MMFs need to keep the NAVs stable so “if the mark-to-market per-share value of a fund’s assets falls more than one-half of 1 percent (to below $0.995), the fund must reprice its shares, an event colloquially known as ‘breaking the buck’.”

The MMF assets are various short term US paper and Agency notes whose maturity can be averaged, say about 90 days, so that if the 3-month paper moves its yield substantially, MMFs can find themselves at the breaking point.

The average maturity, however, is much shorter.

“The average maturity of the portfolios held by money market mutual funds fell to 39 days from 40 days in the previous week,” reports ABC News.

Even if yields do not push the share value down to $0.995 but simply break it below $1, there will be pressure to liquidate.

Can we see liquidation with the current redemptions? Hard to tell but any escalation of this could take us back to 2008 when, due to redemption swell, the Reserve Primary Fund had to liquidate triggering a collapse in MMFs.

“Primary Fund’s problems created a crisis in confidence in money market funds, with redemptions for the week ending September 23 totaling $120.5 billion,” explainsSam Mamudi at MarketWatch.

“It’s unclear whether the exodus is coming from institutional or retail investors. But it’s likely that investors are pulling out of money funds into cash, not feeling rewarded for the risk in the funds in such a low-yield environment, investors say. Many are seeking greater liquidity as uncertainty in Washington looms,” writes Mary Pilon at the WSJ blog.