US money market funds have slashed their holdings of eurozone bank paper, cutting more than $50bn in September alone. But this sharp reduction in liquidity could end up hurting the funds rather than the banks. If US funds prove unreliable investors, banks will look to longer term and more reliable creditors and techniques for cash. That will reduce those funds’ ability to diversify investments threatening the long term risk profile they have sought to maintain.
Europe’s banks have already cut their reliance on short term funding. US money market funds are exiting from eurozone bank funding at a rate of knots — eurozone issuance made up 31.1% of funds’ total assets in May, falling to 18.9% by September, according to Investment Company Institute figures, the US’s investment industry’s association.
But most European banks have been able to find alternative pools of cash. FIG paper accounted for more than 50% of total commercial paper outstanding in October 2009, according to Dealogic. By September 2011 this had fallen to less than 40%. The ECB offered three month dollar funding last week but just six banks bid for $1.353bn — hardly a sign that shortage of dollar funds is endemic in the system.
It is understandable why US money market funds want to reduce their exposure to eurozone banks, particularly to those that are showing the greatest signs of distress. Money market funds live and breathe by their ability to offer investors the lowest risk possible.
But long term, they need to be able to diversify to do this. Their risk-averse nature already means they have a limited pool of borrowers to begin with and alienating more will not help that pool to grow.
There is precedent for borrowers turning their backs on the short term markets. GE Capital was heavily reliant on short term funding in the run up to the credit crunch. But by 2008, purging its balance sheet of short term funding had become a priority.
Société Générale CEO, Frederic Oudea believes his bank can cope without US money market funds “forever”. US money managers should ask themselves whether the reverse is true.