Money fund advisors have found themselves caught between a rock and a hard place recently. Many are carefully assessing ways to deal with severely bruised money market fund yields that have been dragged down by the funds' expenses.
After the Federal Reserve cut interest rates an unprecedented 11 times last year, the yields on many funds have dropped to record lows, while money fund expense ratios have remained unchanged. In some cases, especially where money funds offer B and C classes of shares, which typically sport higher expenses, those slim yields have been close to zero or even negative yields.
To prevent money fund expenses from eliminating yields, some fund advisors have resorted to waiving or absorbing a portion of the expenses, including 12b-1 distribution fees, fund administrative fees or transfer agency fees.
"Investors are becoming more sensitive to how little they are making on their money funds," said Peter Crane, VP and managing editor at iMoneyNet, Inc. of Westborough, Mass. "Funds don't want to earn the reputation as being a low yielding fund," he added.
Waiving Goodbye to Expenses
According to iMoneyNet, Value Line, NationsFunds and INVESCO have all taken to waiving a portion of their usual fees within the past several months in order to cut expenses.
In other extreme cases, fund companies have chosen to temporarily waive a portion of their management fees in order to slash expenses and prop up yields. Last month, Pioneer Funds announced it had begun temporarily waiving 25%, or 10 basis points of the management fee it charges on its $565.6 million Pioneer Cash Reserves fund. The waiver, which reduced the money fund's annual management fee from 0.40% to 0.30%, kicked in on January 8.
Although Pioneer voluntarily waived the fee, it made it clear in an SEC filing that the waiver would be temporary and could be lifted at anytime. Still, over the course of 12 months, the fee reduction could translate into a $560,000 loss in fund management fees to Pioneer Investments, the fund's advisor. Pioneer declined to comment for this article.
Neither fee expense waivers nor partial, or even full management fee waivers have to be approved by shareholders because lower expenses are viewed as advantageous to fund investors. It is only when a fund company seeks to raise its management fee that shareholders must formally approve the increase.
In general, fund companies don't often resort to voluntarily cutting management fees, but those that do usually expect the cut to be short-lived. Fund managers shy away from contractually reducing their management fees because bringing them back up to prior levels would require approval by both the fund's board of directors and shareholders.
The real issue for money funds feeling the squeeze is exactly what expenses to cut, said Crane. Funds may agonize over whether to cut shareholder servicing fees or 12b-1 fees that are typically paid to brokers. To abate eroding yields, funds may decide to cut their money fund's 12b-1 fee to brokers, but reimburse payments out of their own pockets, he said.
Management may decide to voluntarily cut its management fee, but by law that cut must be across the board so that no one share class has a more favorable advisory fee, Crane said.
Despite the cost cutting efforts of some money fund executives, the average expense ratio for all money funds has remained unchanged at 0.61%, meaning that the fee waivers of a few haven't impacted the broader universe of money funds, Crane said.
Moreover, while money fund advisors may be ready to hack away at expenses if necessary, there's been no real rush to do this, Crane said. Further, with the Federal Reserve making no clear sign of any additional interest rate cuts coming down the pike, the worst may be over. Only 12 money funds out of the universe of 1,675 have yields of 0.25% or lower and are most at risk, he added. Moreover, the B and C share classes of money funds, which almost universally have lower asset levels coupled with higher expenses, are the ones suffering.
Breaking the Buck
So what happens if a money fund does fall into negative yield territory? Industry watchers say that "breaking the buck," or seeing a money fund's share price fall below $1 would have serious ramifications for the fund advisor and the industry.
Falling into a negative yield situation because your money fund's expenses wipe out its yield is exactly the same as breaking the buck, said Peter Rizzo, director of fund services at Standard & Poor's. "If you are an investor and you give me $1 and I do not return that full $1 to you, you've broken the buck," he said. That's true whether it's a problem with the fund's portfolio that causes the fund's net asset value to fall below $1 or high expenses that erase the fund's yield, he said.
Although the Fed rate cuts have not yet pushed any money funds to break the buck, any additional interest rate cuts could push some over the edge, Rizzo said.