Of all the questions that loom large for 2024, few are more pressing for market participants than what happens to the $6 trillion parked in money market funds.
One narrative says that mountain of cash is dry powder that’ll get deployed into stocks and bonds assuming nothing goes awry to quell risk appetite. (Not the safest assumption in the world, I’d gently note.)
As discussed here at some length in “The $6 Trillion Question“, the paradox of MMFs as a source of funds for a rally extension is that those very same balances were in no small part to thank for systemic stability in 2023, and thereby for risk asset resilience. It was MMF cash parked in the Fed’s RRP facility which absorbed the tsunami of Treasury issuance, mitigating reserve drain and indirectly facilitating a painless Fed QT.
You could thus argue that a mass exodus from MMFs could be destabilizing, particularly given ambiguity around the threshold for reserve scarcity as the RRP facility drains and the Fed persists with balance sheet runoff.
As a reminder no one needs, “cash” (so, MMFs) was the biggest flows winner of 2023.
Total inflows to global money funds exceeded $1.3 trillion.
All of this is contextualized, of course, by expectations for rate cuts from the Fed. As short rates fall, cash should lose some of its magnetism, particularly in the event risk asset returns are robust.
But, according to BofA, history suggests no imminent rush to the exits. “Inflows to MMFs in the past four cycles continued on average 14 months after the last Fed hike,” the bank’s Michael Hartnett noted. The last hike was in July, so the implied peak in money market fund AUM would be September of 2024.
As the figure suggests, outflows typically begin around 12 months following the first cut. That’d push the first meaningful outflows to Q1 of 2025, not Q1 of 2024.
Let me say, on the record, that I’m not sure past is precedent here. Some readers have asked if there’s a “bubble” in MMFs. My answer is “no” to the extent federal money market funds can’t be a “bubble” in any traditional sense. However, it’s possible that the enormous inflows to money funds have created a scenario in which any stampede out the door (e.g., to chase risk assets) could be destabilizing because, again, those balances played a stabilizer role in 2023.
That’s just an aside. Take it for what it’s worth and file it away. I might come back to it in 2024.
A corollary of Hartnett’s analysis is that while MMF outflows could theoretically serve as a source of funds for an equity melt-up, it might be a while. “Expectations are rising that a big drop in MMF AUM can fund a further jump in risk assets in 2024, but historically that’s not the case,” he wrote.
“Outflows from MMFs in the past five cycles were equivalent to 20% of prior inflows,” which would be roughly $250 billion in the current context, BofA said. But, according to the bank’s read on historical MMF AUM trends, that cash likely won’t find its way into other assets until Q4 of 2024 or Q1 of 2025.
This comment may be naive and off base, but it suddenly occurred to me that if the Fed had data that presaged a larger outflow from the money funds that it would like, perhaps they could consider postponing the first cut for a meeting or two. Alternatively, perhaps the Fed could cut by a smaller amount a couple of times to slow the drain. I can’t help feeling that three 25 bp cuts by June is not going to end well.
Mr. Lucky,
The Fed says one thing and traders say another. Fed-fund futures traders see a high likelihood that as many as five to seven quarter-point Fed rate cuts will occur next year.
I hope Dana is right about the reckonings of Fed-fund futures traders. But I don’t expect so many rate cuts next year. Powell and his Fed colleagues deliberately and slowly managed their response to inflation, being careful (in my perception) to apply the rate increases, and not in any kind of hurry.
I can’t imagine they are likely to provide seven quarter-point cuts. Though I would take it if they give it.
I do not expect the pricing on my investments to “take off.” There are always stocks in a given moment that are hot. But I reckon every day investments in “regular” companies that provide meaningful and useful products will rise slowly as their value is realized and the circumstances are right for investing in them. So, Goodbye 2023!
Wishing Walt, Dana, Mr. Lucky, Emptynester, and all the subscribers on the site a rewarding and profitable New Year!
Best wishes!
CD
There is almost $8T of US federal interest bearing debt that is coming due and will need to be refinanced in the next 12 months- on top of the additional, new debt that will need to be issued to fund the federal budget shortfall in 2024- roughly $2T. So $10T of Tbills and UST’s to sell-so I am thinking higher interest rates for longer.
I never understood why Mnuchin did not issue more 30year UST’s when rates were so low. I always figured it must have been because no one wanted to buy such bonds. Would have been nice, however.
US debt repayment has been coming due and will need to be refinanced. I expect some of it will be paid down. But at least it’s manageable. US debt repayment will be a drag. But I’ll take it. It’s definitely better than addressing the debt in China, which presents a more dramatic dilemma and a greater challenge for their economy.
The China Observer published a video take on Moody’s call about China’s $11 trillion in debt. The Chinese people were described in the video as trying to escape the country as a result. I’m curious about the longer term effects for China, and whether escaping the country may prove to be a trend. Can’t imagine it will make Chinese citizens and businesses feel good about their politburo and leadership.