Investor Information Acquisition and Money Market Fund Risk Rebalancing during the 2011–2012 Eurozone Crisis*

Abstract

We study investor redemptions and portfolio rebalancing decisions of prime money market mutual funds (MMFs) during the Eurozone crisis. We find that sophisticated investors selectively acquire information about MMFs’ risk exposures to Europe, which leads managers to withdraw funding from information-sensitive European issuers. That is, MMF managers, particularly those serving the most sophisticated investors, selectively adjust their portfolio risk exposures to avoid information-sensitive European risks, while maintaining or increasing risk exposures to other regions. This mechanism helps to explain the occurrence of selective “dry-ups” in debt markets where delegation is common and returns to information production are usually low. (JEL G01, G21, G23) Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

Treasury Safety, Liquidity, and Money Premium Dynamics: Evidence from Recent Debt Limit Impasses

“…25 This type of equilibrium could be in line with a money market mutual fund (MMF) manager restoring the information insensitivity of their funds and becoming less risky by not taking an at-risk security. This type of strategy has been used by MMF managers during the European crisis (Gallagher et al [2019]) and by banks in the commercial deposit market (Pérignon, Thesmar, and Vuillemey [2018]). On the other hand, sometimes managers respond by increasing risk taking, such as in the MMFs during money fund reform (Baghai, Giannetti, and Jäger [2018] and Cipriani and La Spada [2017]).…”

“…Brancati and Macchiavelli [2019] shows how the information sensitivity of bank debt evolved around the global financial crisis. Gallagher et al [2019] test pieces of the model within money market funds. Our contribution to this literature is to be the first to provide evidence for informational sensitivity of one of the safest and most liquid debt instruments, U.S. Treasury bills.…”

Adverse Selection Dynamics in Privately-Produced Safe Debt Markets

“…The literature closest to our work includes Brancati and Macchiavelli (2019), Gallagher, Schmidt, Timmermann and Wermers (2020), Perignon, Thesmar and Vuillemey (2018), and Benmelech and Bergman (2018). Brancati and Macchiavelli (2019) examine the Panic of 2007-2008 and "... provide direct evidence that while in good times bank debt is largely informationally insensitive, it becomes significantly sensitive to information in bad times" (p. 99).…”

Investor Monitoring, Money-Likeness and Stability of Money Market Funds

“…As privately provided money-like assets, U.S. MMFs, and especially institutional prime fundsthe riskiest type of MMFs targeted to institutional investors-have been subject to runs as more sophisticated and better informed investors have rushed to redeem their shares after the default of Lehman Brothers in fall 2008 (Kacperczyk and Schnabl, 2013;Schmidt et al, 2016) and during the eurozone crisis in 2011 (Chernenko and Sunderam, 2014;Gallagher et al, 2020). As a response to these experiences, the Securities and Exhange Comission (SEC) introduced a comprehensive regulatory reform, announced in July 2014 and implemented in October 2016.…”

“…Furthermore, we show that similar to the run on institutional prime funds during the eurozone crisis, in March 2020, more sophisticated investors were more prone to run from funds that were subject to more intense monitoring. However, while in the eurozone crisis the more sophisticated investors run to avoid credit risk exposure to European issuers (Gallagher et al, 2020), in March 2020 their redemptions were significantly amplified by fund illiquidity. More specifically, we find that during the run in March 2020, 10 percentage point decrease in WLA is associated with an increase of 0.7 percentage points in average daily outflows from the share classes with more sophisticated investors.…”