Investors Leave Prime Money Funds For Government-Only Portfolios

Shaken by last weekend's two major bank failures in the United States and a wobbly week for Credit Suisse, investors are shifting assets from prime money market funds -- which emphasize corporate debt -- to money funds focusing on government securities.  

At Charles Schwab, prime funds had $8.8 billion in net outflows this week alone, Bloomberg reports. At the same time, clients poured $14 billion into Schwab's government and Treasury funds.

That's consistent with a broader trend: Industry-wide, prime fund assets dropped $18 billion in the week ending March 15, but total money fund assets surged $121 billion. That's the biggest inflow since the early days of the Covid-19 pandemic. It pushed money fund assets past $5 trillion -- a record high for data that goes back to 2007. 

Thanks to fed rate boosts, money fund yields are far above their near-zero yields that prevailed for many years. Combine those higher rates with market volatility and growing unease about bank solvency and you have a recipe for a major influx in cash into money funds.

“We are experiencing inflows across the board, generally into all of our liquidity products,” Deborah Cunningham, chief investment officer for global liquidity markets at Federated Hermes tells Bloomberg. “It seems to be coming from bank deposit products more than anything else.”

Those shifting from prime to government funds make a modest sacrifice of yield. For example, the Schwab Value Advantage prime fund has a 7-day yield of 4.49%, compared to 4.31% for Schwab's US Treasury fund.

In the wake of the 2008 financial crisis and the Covid-19 pandemic, prime funds hold a much-diminished place in the money market asset class. Going into the Great Recession, prime money funds accounted for nearly 60% of all money fund assets. Today, government-only funds comprise 76%.  

The 2008 meltdown brought an ignominious first, when the Reserve Primary Fund "broke the buck" -- that is, had its net asset value fall below the steady $1.00 level that money fund managers strive to maintain. The fund held $785 million in commercial paper issued by the doomed Lehman Brothers.    

Some mutual fund managers have gone so far as to entirely eliminate prime funds from their offerings. For example, in 2020, Vanguard announced that its once-mainstay Vanguard Prime Money Market Fund would be reorganized into a government money fund and renamed Vanguard Cash Reserves Federal Money Market Fund. 

“Vanguard investors prioritize capital preservation for their money market investments, and we believe that the rewards of even the most conservatively managed prime funds are no longer worth the risk,” said Vanguard Chief Investment Officer Greg Davis at the time. 

All that said, investors shouldn't blind themselves to the risks of lending money to the debt-laden U.S. government, which is itself steadily marching toward insolvency.