Deposits at the 20 largest U.S. banks are generally concentrated in banks with Tier 2 ratings, many of which are just one step away from BBB status. Significant cross-concentration of bank names also exists in large prime money market funds. The dominance of bank exposure in corporate portfolios through deposits and money market funds may be reduced through customized separate account solutions given the trend of increased non-financial issuance.
The expiration of the TAG program may bring a demand shock to money market funds, resulting in even lower yields than the current historical lows, anchored by accommodative monetary policies. Customized separate account solutions may broaden investment opportunities for, and provide yield relief to, corporate portfolios.
Last month, we discussed the abnormal relationship between domestic deposit growth and deposit ratings migration among the 20 largest U.S. bank holding companies (BHCs) since 2007. We concluded that reduced government support assumptions and deteriorating bank credit strength should compel treasury professionals to diversify their deposit holdings once the FDIC transaction account guarantee (TAG) program expires on December 31, 2012.
In this follow-up writing, we continue the discussion by examining the cross-concentration risk in money market mutual funds with deposits. We also are mindful of the yield impact of the TAG expiration on general money market rates. We again emphasize the benefit of integrating money market funds and separate account solutions for more efficient risk management and yield enhancement.
Concentration in Lower Tier Banks
In our last study, we showed that the banking industry, as represented by the 20 largest BHCs, has largely migrated from AA ratings on average to single-A ratings. What perhaps is more striking is the fact that eight of the 20 BHCs are rated A3 or lower (See Appendix A for the list of banks and deposit ratings).
We observe two significant takeaways from Figure 1 below. First, 47% of the deposits already are rated P-2. In many corporate investment policies, commercial paper and other short-term instruments rated below P-1 normally would not qualify as eligible holdings. Although deposits technically are not investments, firms with a Tier-1 (A-1/P-1) investment mandate should carefully consider whether unguaranteed deposits rated P-2 are consistent with their risk tolerance.
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