Failed Reserve Primary Tops Users of Fed's Aid to U.S. Money Market Funds

Reserve Primary, the money-market mutual fund whose September 2008 collapse helped freeze global credit markets, was the biggest user of a government-backed program that enabled the industry to meet investor withdrawals during the financial crisis.

Vanguard Group Inc. and Legg Mason Inc. were the only money-fund providers among the industry’s top 10 that didn’t utilize the Federal Reserve’s Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility, or AMLF, according to data released today by the U.S. central bank. Funds run by JPMorgan Chase & Co. sold $17.7 billion in asset-backed commercial paper to banks under the program, more than any family except Reserve.

The Fed opened the program on Sept. 19, 2008, when prices for commercial paper plunged following the bankruptcy of investment bank Lehman Brothers Holdings Inc. and as investors fled money-market funds that held corporate debt. The AMLF, administered by the Boston Fed, peaked at $152 billion in purchased assets on Oct. 1, 2008, and ended Feb. 1, 2010.

The Dodd-Frank financial regulatory overhaul approved by Congress in July required the Fed to release information about its lending programs. The central bank has never before made public specific, transaction-level detail about its lending.

Reserve Primary sold $19.4 billion in holdings while it was being liquidated. JPMorgan’s $132.3 billion Prime Money Market Fund, the largest money-market mutual fund, sold the next highest amount at $15.6 billion. Funds provided by Bank of New York Mellon Corp. under the Dreyfus brand were the third-largest family of users, selling $16.7 billion.

Fidelity Funds

Funds operated by Fidelity Investments, the largest provider of U.S. money-market mutual funds, sold $5.4 billion in holdings.

Frank Bonanno, a spokesman for New York-based Reserve Management Corp., didn’t immediately return a call seeking comment. Jennifer Zuccarelli, a spokeswoman for New York’s JPMorgan Chase & Co., declined to comment.

Rebecca Katz, a Vanguard spokeswoman, said the firm decided before global credit markets froze to stop buying asset-backed debt.

“We had concerns that even the superior programs might have problems rolling over their paper, and therefore had ceased purchasing them,” she said.

Mary Athridge, a Legg Mason spokeswoman, declined to comment. The firm’s money funds are sold under the Western Asset brand name.

Under the program, the Fed lent money to U.S. banks and branches of foreign banks that used the cash to buy collateralized debt at face value from money-market funds. The program allowed funds, which held $3.4 trillion in assets, to meet redemptions without being forced to sell holdings into a plummeting market for commercial paper. Banks weren’t required to repay the Fed loans if the debt they purchased defaulted.

$230 Billion Withdrawn

Two days after Lehman filed for bankruptcy on Sept. 15, 2008, Reserve Primary, which held debt from the bank, became the second money fund in the industry’s 40-year history to saddle investors with a loss. Worried that losses would affect other funds, investors withdrew $230 billion from money funds in the week ending Sept. 19.

Commercial paper fell further as investors, including money funds, rushed for the safety of Treasury securities. Declining prices pushed some funds to the edge of collapse as they sold securities at a loss to fund customer withdrawals. A loss representing more than 0.5 percent of a fund’s net assets causes the share price to drop from $1, the industry’s fixed standard, to 99 cents.

Putnam Investments LLC closed its $12.3 billion institutional Putnam Prime Money Market Fund, whose holdings hadn’t suffered any default, on Sept. 18, 2008, to prevent its collapse under withdrawal requests. Closing the fund gave Boston-based Putnam seven days to fulfill redemptions. Within a week it sold the fund to Pittsburgh’s Federated Investors Inc., the third-largest money-market mutual fund provider, according to Crane Data LLC in Westborough, Massachusetts. Federated promised to honor withdrawals.

Fund companies have since worked to create an industry- funded emergency liquidity bank for money funds that would operate similarly to the AMLF.

The proposed facility, outlined in a March 15 speech by Paul Schott Stevens, president of the Washington-based Investment Company Institute, would protect money funds that invest in corporate debt. It would step in to buy securities at face value in the event of a financial crisis. As a bank, the proposed facility would ultimately have access to the Fed’s discount lending window.

Commercial paper typically represents an unsecured promissory note maturing in 1 to 270 days. Maturities average 30 days, according to the Fed. Banks and other financial institutions typically issue asset-backed commercial paper.

There was $387.6 billion in outstanding asset-backed commercial paper in the U.S. as of Nov. 17, Fed data show. On Sept. 17, 2008, the last reporting date before the AMLF began operating, there was $711.9 billion.

Money funds held $2.8 trillion in assets as of Nov. 30, according to research firm iMoneyNet Inc., also in Westborough.

To contact the reporter on this story: Christopher Condon in Boston at ccondon4@bloomberg.net

To contact the editor responsible for this story: Christian Baumgaertel at cbaumgaertel@bloomberg.net

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