Money market funds are funds that invest in short and usually quite safe money market instruments. Given the fact that after years of negative interest rates even short-term rates are quickly getting back in positive territory, these funds are attracting a lot of interest from investors. For example, in the US you are paid almost 3.50/4% to park funds in short term liquid investment while in Europe you can get around 1.25/1.50% but rates are going to increase quite soon. So, not a bad place to park funds in uncertain times.

Being very short in terms of maturity the effect of higher yields has a very limited effect of the price of the instruments that compose these funds (unlike longer bonds). A higher interest rates only means higher interest accruing to the fund.

Tipically money market funds invest in instruments like:

  1. Short term bonds
  2. Bank deposits
  3. Repurchase agreements
  4. Commercial paper
  5. Certificates of deposit

Basically, money market funds can be classified on the basis of the way they value their assets. There are 2 ways:

  1. Amortised cost accounting, which values the asset at its purchase price and then adds back linearly over-time the discount or subtracts the premium versus par value.  The asset will be valued at par at its maturity. 
  2. Mark-to-market accounting, which values the asset at its current market price.

On the basis of the above money market funds can be classified in three main categories:

  • Public debt constant net asset value (CNAV) – these funds aim to offer an unchanging net asset value per unit or share at which investors purchase or redeem shares (although negative yield meant that this was not possible in the last years). They are obliged to invest most of their assets in government debt. Securities are valued at the amortised historical cost.
  • Variable net asset value (VNAV) – the assets that these funds have in their portfolios are valued at current market prices so NAV can fluctuate with market prices.
  • Low volatility net asset value (LVNAV) – like the CNAV funds, these funds’ share prices remain constant but only until a certain limit. When the NAV deviates by more than 20 basis points from 1.00 they convert to VNAV. This means that the funds price stays at 1.00 until either 0.9980 or 1.0020 is breached then it converts to a VNAV.

These funds can have distributing or accumulating classes. The price of CNAV and LNAV (within the 99.80/100.20 band) stays at 1.00 for distributing classes. As far as the accumulating classes are concerned, the NAV can increase by the income received and it is paid in full when the fund is redeemed. 

Clearly, the regulation is more stringent for CNAV and LVNAV than for VNAV. 

Public debt CNAV and LVNAV funds must maintain at least 10% of their holdings in daily liquidity assets and 30% in weekly liquidity assets. VNAV funds are subject to less stringent requirements, having to hold 7.5% in daily liquid assets and 15% in weekly liquid assets.

Also, Liquidity fees and redemption gates may occur to public debt CNAV and LVNAV funds but they are not applied to CNAV. What does it mean? 

Both can occur in times of market stress. 

A liquidity fee means that the investor might be required to pay a fee to redeem the shares during the time of market stress.

A redemption gate is a measure that, under certain circumstances, may limit redemptions in a fund for a short period of time (up to 15 business days in a 90-day period). 

These fees and redemption gates can occur when one of the following criteria is met:

  1. When the level of weekly assets falls below 30% and net redemptions from the fund exceeds 10% in one day then the board of the fund has the discretion to do nothing or implementing fees and/or gates.
  2. When the level of weekly liquid assets falls below 10% the board is obliged to implement fees and/or gates.

Usually funds tend to keep a liquidity position that avoid the occurrence of one of these conditions even in times of market stress.

Leave a Reply

Your email address will not be published. Required fields are marked *

This site is protected by reCAPTCHA and the Google Privacy Policy and Terms of Service apply.

The reCAPTCHA verification period has expired. Please reload the page.

Post comment