More Fallout from Funny-Money Finance Gone Bad?

Fed Chairman Ben Bernanke and Treasury Secretary Henry Paulson both warned earlier this week that the crisis in the housing market would last longer than expected. That is either ironic or the clearest sign yet that our nation's economic leadership is out of touch with reality given that the unfolding disaster has already gone on for far longer than most mainstream observers -- read highly paid Wall Street types -- had predicted.

More ominous, perhaps, is the fact that those who are supposed to be in the know and keep things on an even keel are only now beginning to accept what is already widely understood while a whole host of fresh storm clouds are forming on the horizon. In "SIVs Pose Risks for Money-Market Funds," the Wall Street Journal reports on the potentiallly far-reaching fallout from the latest chapter of funny-money finance gone bad.

Complex investments known as SIVs are roiling Wall Street and the world of high finance. But the investment vehicles also are threatening trouble in a seemingly unlikely place: money-market funds, the choice for many individual investors seeking safety.

In recent years, the short-term debt issued by such structured investment vehicles, or SIVs, had become a favorite for many money-market funds, thanks to their attractive yields, high credit ratings and added diversification.

As a result, many money-market mutual funds were holding 10% to 20% of their portfolios in debt issued by SIVs. Funds overseen by Bank of America Corp.'s Columbia Management Group, Credit Suisse Group's Credit Suisse Asset Management, and Federated Investors Inc. recently held big stakes in SIVs, including some of the most troubled names.

While many investors bought the debt issued by SIVs, their problems raise particularly thorny issues for money-market funds. A pillar of the appeal of money funds is that they maintain a $1-per-share net asset value, meaning that an investor who puts a dollar into the fund will get his one dollar back plus interest earned along the way. But with SIVs foundering, fund firms may have to take some cautionary steps to avoid their funds suffering losses, what is known in the industry as "breaking the buck."

Significant money-fund losses are unlikely for several reasons. Only a handful of SIVs are thought to be in real danger and money funds typically own senior notes, or a type of investment that provides some protection against losses in an SIV. Additionally, money-market funds are subject to strict investing rules that limit how much they can keep in individual holdings. Many funds already have begun drastically trimming SIV-related purchases. Most have been cutting back on their holdings by allowing securities to mature without rolling them into new debt from the issuer.

And in recent weeks, the U.S. Treasury and Wall Street teamed up to try to create an SIV bailout fund, which if successful, could alleviate the strain on SIV issuers and investors. Money-market fund managers have been looking to the bailout pool to stabilize the market for SIV securities and help protect any funds running into trouble.

Firms Could Absorb Pain

Most important for money-fund investors, fund companies would almost certainly take steps to prevent losses from reaching shareholders -- such as absorbing the losses themselves by purchasing the money-losing securities from the fund at their full price.

Even if funds don't break the buck, the collapse of the SIV market could slightly reduce yields on funds that had held big investments in the securities, which offered slightly higher payouts than comparable securities. If a money fund's SIV-related holdings were downgraded and a fund had to sell off the positions, that could affect a fund's yield, says Roger Merritt, a managing director at Fitch Ratings.

The concern underscores how complex investments such as SIVs have ended up even in places that small investors turn to for a safe harbor. That has brought some of those funds risks few investors expect. The issue also has become more widespread; money-market funds continue to set asset records, hitting a high of $2.88 trillion through earlier in the latest week, according to the Money Fund Report, published by iMoneyNet Inc.

Fund companies holding troubled SIVs say they are assessing the situation. Many are letting the securities mature and not replacing them. Some may even buy troubled SIV securities from their money-market portfolios to prevent major problems, says James McDonald, who oversees the T. Rowe Price Prime Reserve Fund, which has long held only a fraction of its assets in SIV debt.

The $12 billion Credit Suisse Institutional Money Market Fund held billions in SIV-issued notes and commercial paper at the end of June, including several that were downgraded recently by ratings agencies. Today, however, the fund holds no SIV securities. A spokesman declined to comment on how the fund disposed of the SIV securities.

SIVs have historically been relatively safe investment pools. But after this summer's bond-market turmoil, a handful now face substantial financial difficulties and potential losses.

Comfort for Investors?

Deborah Cunningham, an executive at Federated Investors, which owns SIV debt in its funds, acknowledges there has been an "unprecedented change" in the environment for SIVs and the way portfolio managers need to evaluate them. However, she adds that money-market investors "should take comfort" in the effort to resolve the problem.

It can be tough for money-market-fund investors to determine how much exposure a fund has to the SIV market. SIVs generally have obscure names, such as Sigma Finance or Cullinan Finance, and the holdings are often grouped by the type of security the SIV issues, such as commercial paper or medium-term notes. Even once an investor identifies a security as an SIV offering it can be hard to track down information on the particular SIV issuer.

SIVs raise money by selling short-term debt and using it to buy higher-yielding long-term securities, profiting on the difference between the interest rates on the two. However, bond-market turmoil lessened the appetite for such short-term debt among investors such as money-market funds, turning the SIV business model on its head.

Money-market-fund SIV-related holdings vary. The $67 billion Columbia Cash Reserves portfolio, for instance, holds securities issued by SIVs. Among them was $643 million in debt from a U.K.-based SIV, Cheyne Finance Ltd. Last month Cheyne went into receivership as a result of the credit crunch. Its securities were downgraded by Standard & Poor's to default status Friday. A spokesman for Columbia said the firm is monitoring the situation and that "to date, no SIV downgrade has had a significant impact on our funds."

The roughly $570 million SunAmerica Series Trust Cash Management Portfolio, offered through variable annuity products also managed by Columbia, held 20.6% in SIV debt through the end of July.

Other fund firms have had only small holdings of SIV securities. Vanguard Group's money-market funds have never owned any SIV securities. T. Rowe Prime Reserve Fund never topped 3% in SIVs and is now down to 1.5%. The $50 billion BlackRock TempFund had less than 1% in SIVs through the end of September.

Comments

[Michael]

All this talk about SIV's can get really complicated. The high-falutin financier terms can be so doggone confusing for us common folk . Just so we're all on the same page, here's a short video that helps de-mystify all the fancy banker talk. :-)

http://www.youtube.com/watch?v=SJ_qK4g6ntM