|
 Barclays Bank plc, Credit Suisse and Wells Fargo and others get
overnight and short-term loans from companies that run money market
mutual funds such as Fidelity Investments, BlackRock Inc, American
Beacon and others. The banks use the money to fund long positions in
securities or to cover short positions. For collateral, the funds
are accepting the junk-rated bonds of beat-up energy companies.
Even though the value of the bonds are in free fall as oil prices
plummet, the money funds readily accept the debt, because it's a way
to generate above-market yields in an industry hurt by near-zero
interest rates. In 2014, the average yield for taxable money fund
investors was a paltry 0.01 percent. Banks currently have about $90
billion outstanding in short-term and overnight loans backed by
riskier assets that include corporate debt and equities.
The exact amount of junk-rated energy debt used as collateral was
not available. But more than a dozen of the sector's mostly highly
distressed issuers, including QuickSilver Resources, Black Elk
Energy, Halcon Resources, Samson Investment and Sidewinder Drilling
Inc, have had their bonds used as collateral, according to recent
fund disclosures.
These so-called "other repurchase agreements" generate above-market
yields for the funds, ranging anywhere from 20 basis points to 50
basis points. In contrast, repo loans backed by safe U.S. Treasuries
can generate yields of about 10 basis points and less, according to
recent fund disclosures.
Most money fund assets are in Treasuries, certificates of deposit
and government agency debt. But some jarring discoveries in the
types of collateral money funds accept on short-term loans to big
banks can be found by investors who dig through industry
disclosures.
A money fund run by Morgan Stanley recently disclosed, for example,
an $8.25 million repurchase agreement with Credit Suisse, which used
bonds issued by Sidewinder Drilling as most of the collateral. As
oil prices have tumbled, so has the value of Sidewinder's 2019
bonds, falling about 44 percent since early October.
Credit Suisse declined to comment.
Money funds downplay the risk in the repo transactions backed by the
junk-rated collateral. They say their ultimate backstop is the bank
on the other side of the deal. Fidelity, the largest money fund
operator in the industry, declined to comment on any specific
transaction. In a statement, the company said, "We make an
independent assessment on the counter-party credit quality in all
repurchase agreements to ensure the counter-party represents minimal
credit risk."
By contrast, No. 1 U.S. mutual fund company Vanguard Group plays it
safe. The $133 billion Vanguard Prime Money Market Fund and the
company's other money funds only accept U.S. government securities
as collateral, company spokesman David Hoffman said.
"In times of stress, governments are far more liquid than other
asset classes,” Hoffman said. “This is especially true with U.S.
Treasuries, which are likely to rally during times of stress."
[to top of second column] |
Federal Reserve Bank policymakers say they are worried that some
banks rely too much on repo loans as a source of wholesale funding.
They also point out how money funds make loans secured by assets
they would quickly unload if the bank on the other side of the deal
defaulted.
"What always worries you about wholesale funding is the run risk,"
John Williams, president of the Federal Reserve Bank of San
Francisco, told reporters this week at an economic conference in
Boston. "... Heavy reliance on wholesale funding, which is still
there for certain institutions, is an important issue that we need
to address and make sure our financial system is resilient to things
going wrong."
Despite a host of new regulations for money funds and banks, some of
the same elements of risk that led to a redemption run in the money
fund industry and the failure of Lehman Brothers in 2008 remain
intact. Treasury and Federal Reserve officials say more work needs
to be done to address the risks of asset fire sales and redemption
runs.
A redemption run on the Reserve Primary Fund in 2008 has been a
rallying cry for reform after its exposure to Lehman Brothers debt
prompted panicked investors to withdraw their money in droves. That
run led the fund to "break the buck," a rare event in the money
market fund industry that refers to a fund's net asset value falling
below $1 per share.
In recent presentations, Boston Fed President Eric Rosengren has
said there should be more disclosure about the composition of the
collateral used in repo agreements. He said it would allow investors
an opportunity to observe changes in financing patterns and might
prevent risk taking that investors may consider excessive.
And this summer, before oil prices began their descent, bonds issued
by Black Elk Energy Offshore Operations LLC were used as collateral
in repo agreements with funds run by Fidelity, BlackRock Inc and
Goldman Sachs' investment management arm, fund disclosures show.
But in recent months, Black Elk debt maturing later this year is not
turning up as collateral in the latest round of money fund
disclosures. The yield on its bonds has spiked as high as 75 percent
in the past month, an indication of the bond market's dimming view
the company can avoid default.
(Writing By Tim McLaughlin; Additional reporting by Michael
Flaherty; Editing by Richard Valdmanis and John Pickering)
[© 2014 Thomson Reuters. All rights
reserved.] Copyright 2014 Reuters. All rights reserved. This material may not be published,
broadcast, rewritten or redistributed. |
