Money-market mutual funds, the ultimate havens for investors looking to preserve capital, once again are trying to maneuver in a zero interest-rate environment. The problem this time? They’re sitting on twice as much cash.

Assets in money-market funds have soared to a record $4.77 trillion amid a flight to safety by investors this year. More than three-quarters of that is parked in Treasury-only and other government funds perceived to be the least risky, Investment Company Institute data show, in part because of regulatory reforms in 2016 that triggered an exodus from prime funds.

Giants of the industry like Vanguard Group and Fidelity Investments already have done what’s known as “soft closes,” or shutting down some funds to new investors. Speculation is swirling that management fees may be waived eventually by some companies in the industry. And managers are getting creative with their investments. It’s all an effort to preserve some sort of positive return for clients, a task that may get more difficult as traders start to bet on a negative Federal Reserve benchmark rate.

“Within a Treasury money fund, in particular, you get squeezed into a pretty small box in terms of what your opportunity set is,” said Joe Lynagh, head of cash management at T. Rowe Price, which manages $55 billion of money market funds, about $25 billion of which is in client-facing government funds.

The U.S. Treasury has issued more than $1.5 trillion of bills in order to fund its stimulus programs and plug the hole in tax receipts amid the economic fallout from efforts to contain the coronavirus. While this has provided a much-needed supply of assets for money funds to buy, yields are razor thin and the Federal Reserve’s benchmark rate is anchored near 0% for the foreseeable future.

The crush of inflows to money-market funds has come even as the funds’ own yields approach zero. Last year, yields on the funds were above 2%. These days, the average of the 11 largest government funds is about 20 basis points and the average for the 11 biggest prime money funds is 64 basis points, according to State Street Global Advisors.

When rates were near zero during the recovery from the global financial crisis, some fund companies waived management fees in order to preserve returns for clients. That could happen again, according to Will Goldthwait, global cash and fixed-income strategist at State Street Global Advisors.

“Clearly, there’s a revenue challenge as yields drift down to zero,” he said. “I hope that we’ll see a reasonable recovery sometime in 2021 and the conversation about the Fed raising rates gets started again.”

Some managers like Lynagh aren’t considering soft closes, even as the low-rate environment poses a challenge for the medium term as economists forecast a lengthier recovery from the recession.

Repo Trades
It’s not just the risk of lower-for-longer T-bill yields -- the profitability from lending in repo markets has also been reduced.

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