Fed Steps in with $600 Billion Plan to Bolster Money Market Funds

By Jennifer Yousfi
Managing Editor
Money Morning

The U.S. Federal Reserve yesterday (Tuesday) announced a new program that will provide as much as $600 million in emergency funding to money-market funds should the ongoing global financial crisis once again cause the short-term credit markets to freeze out borrowers.

The newly created Money Market Investor Funding Facility (MMIFF) will help money market funds meet redemption needs and keep from “breaking the buck” – dropping below the normal $1 in net asset value – as The Reserve Primary Fund (RFIXX) did after the collapse of Wall Street investment-banking giant Lehman Brothers Holdings Inc. (OTC: LEHMQ). Struggling money-market funds that have seen more than $500 billion in redemptions since Lehman’s demise.

“The short-term debt markets have been under considerable strain in recent weeks as money market mutual funds and other investors have had difficulty selling assets to satisfy redemption requests and meet portfolio rebalancing needs,” the Fed statement announcing the new program read

Losses on Lehman debt caused The Reserve Management Co. to mark down its Primary Fund’s net asset value (NAV) to 97 cents. It was the first time a money market fund had been forced to lower its NAV below $1 in 14 years. What followed was a half-trillion-dollar outflow from money market funds as institutional investors pulled their cash out of the funds to seek out the safety of U.S. Treasuries.

“By facilitating the sales of money market instruments in the secondary market, the MMIFF should improve the liquidity position of money market investors, thus increasing their ability to meet any further redemption requests and their willingness to invest in money market instruments,” the Fed statement read.   “Improved money market conditions will enhance the ability of banks and other financial intermediaries to accommodate the credit needs of businesses and households.”

The Fed selected JPMorgan Chase & Co. (JPM) to oversee the new program. JPMorgan will set up five “special purpose vehicles” through which money market fund managers can access Fed funds in exchange for dollar-denominated certificates of deposit, bank notes and commercial paper with maturities of less than 90 days.

Despite the half a trillion dollars in redemptions, the money-market industry still accounts for $1.7 trillion in assets. Cash outflows have slowed since August, Reuters reported, but money market funds have been left with very slim liquidity margins.

The Fed will supply $540 billion, with a remaining $60 billion to be raised from commercial paper sold by the five newly formed units.

In terms of the redemptions money-market funds are seeing, and hedge funds as well, any of these moves by the Fed are going to help,” Mike Holland, chairman and founder of Holland & Co. LLC in New York, said in an interview with Bloomberg Television.

Holland predicted redemptions would ease with the creation of the MMIFF program.

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