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April 23, 2021

Central Banks Tolerate Rise in Long-Term Rates

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April 23, 2021

Central Banks Tolerate Rise in Long-Term Rates


Market Insights

Central Banks Tolerate Rise in Long-Term Rates

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April 23, 2021

 
 

Federal Reserve Board1

As expected, the Federal Open Market Committee (FOMC) kept the range for the federal funds rate unchanged at 0.00% to 0.25% at the conclusion of its March meeting. The Federal Reserve (Fed) did not tweak its forward guidance or quantitative easing policies. The March press release remains consistent with prior meetings but with a more upbeat assessment of the pace of the economic recovery. Having previously characterized the recovery as moderating at the January meeting, the Fed noted in its March statement “following a moderation in the pace of the recovery, indicators of economic activity and employment have turned up recently.”

In addition to the press release, the Fed introduced an updated summary of economic projections. Chairman Powell and the FOMC reiterated current forward guidance and accommodative policy with its updated dot plot, which illustrates that 14 out of 18 officials expect to keep rates at current levels through 2022, while 11 of the 18 officials expect rates to remain unchanged through 2023. The FOMC increased its real gross domestic product projection to 6.5% in 2021 from 4.2% in December. The Fed estimates the unemployment rate will decline to 4.5% in 2021 and continue to improve in the following two years. The committee projects core Personal Consumption Expenditures to rise slightly above 2% in 2021, but ultimately level out at 2% over the course of 2022 and 2023.

Although the Fed acknowledges improved economic data and reiterated optimistic sentiment with improved economic projections, it continues to stand by the economy in case expectations are mired by the ongoing COVID-19 pandemic or projections don’t materialize.                   

European Central Bank1

At the European Central Bank’s (ECB) policy meeting on March 11, President Lagarde and the policy committee left the ECB deposit rate unchanged at -0.50%, as expected. The committee kept the size of its pandemic emergency purchase program (PEPP) and asset purchase program unchanged in March. In response to rising yields, the release noted, “the Governing Council expects purchases under the PEPP over the next quarter to be conducted at a significantly higher pace than during the first months of this year.” The ECB views its current monetary policy as appropriate and will remain accommodative until inflation moves towards its mandate.       

Bank of England1

The Bank of England Monetary Policy Committee (MPC) voted unanimously to maintain the Bank Rate at 0.10% and its U.K. government bond purchase program at its March meeting. Like other central banks, the MPC acknowledged higher global sovereign yields, saying, “longer-term government bond yields have risen rapidly to levels similar to those seen shortly before the pandemic. For the most part this has reflected higher real yields.” The committee believes the vaccine rollout and easing restrictions in the U.K. to be significant tailwinds for the economy in the short term. While the press release portrays a bit more optimism, the MPC notes the outlook is “unusually uncertain.”        

 
 
 
Display 1: Overnight Rates
 

Source: Bloomberg.

 
 
 
Display 2: LIBOR Rates
 

Source: Bloomberg.

 
 
Display 3: Yield Curves
 

Source: Bloomberg.

 
 

PORTFOLIO STRATEGY

MSLF EURO LIQUIDITY FUND (LVNAV)

March activity was, as usual, dominated by preparation for quarter-end constraints, as balance sheet availability for overnight deposits is limited. The Fund was well positioned for this quarter-end client activity, with the daily liquid assets gradually falling to circa 30% towards the end of March. Despite this, our weekly liquidity was bolstered going into quarter-end as we pivoted towards investments in weekly eligible assets. We continue to look at term investment and covered bonds as a source of yield pick-up where we are able to find potentially attractive opportunities. With the seventh TLTRO III (targeted longer-term refinancing operations) settling on 24 March, pushing excess liquidity towards €4 trillion, there are expectations for further pressure on the yield curve in the coming months. The Fund’s weighted average maturity (WAM) extended over the month, increasing from 45 to 51 days, whilst the weighted average life (WAL) rose from 47 to 52 days. This extension was, however, partly due to outflows, with the Fund assets under management size falling circa €800 million.

MSLF STERLING LIQUIDITY FUND (LVNAV)

Following the Bank of England MPC meeting in February implying that negative interest rates were highly unlikely in the U.K. for the foreseeable future, there was a gradual pick up in yields across the curve. This has continued after March’s neutral MPC comments. In an effort to increase the Fund’s yield with the improving market, the WAM and WAL were extended towards the end of the month, reaching 52 and 58 days, respectively, as we saw attractive opportunities in the 3- to 6-month space. However, both the WAM and WAL still finished March slightly lower than at the end of February. This was largely a function of strong inflows, with the Fund gaining circa £1.5 billion in assets to close the month at around £4.6 billion. We continue to maintain good levels of liquidity in the Fund.

MSLF U.S. DOLLAR LIQUIDITY FUND (LVNAV)

Fed officials kept interest rates near zero and made no changes to their asset purchase program at the March FOMC meeting, while observing “indicators of economic activity and employment have turned up recently, although the sectors most adversely affected by the pandemic remain weak." The Fed’s dot plot continues to show that most officials expect no change to borrowing costs through 2023. Intra-month, volatility in the Treasury market did not flow through to the money market space, with spreads remaining tight and 3-month LIBOR remaining range bound between 18 and 20 basis points. We maintain our strategy of adding fixed-rate investments to the portfolio, due to the liquidity and rolldown benefits of that structure. Weekly liquidity in our portfolios remains elevated, in excess of 50% throughout the month.

MSLF U.S. DOLLAR TREASURY LIQUIDITY FUND (PUBLIC DEBT CNAV)

During March, Treasury bill and repo yields remained very low with overnight SOFR coming in at 1 basis point the entire second half of the month. While there was some additional Treasury bill supply after the stimulus passed, it merely served to slow the pace of net bill paydowns with minimal yield impacts. The demand from the abundance of cash in the front end continued to overtake investment options, keeping the 1-year Treasury curve under 7 basis points. At the March meeting, the FOMC made modest changes to its statement and left the federal funds target range unchanged at zero to 25 basis points. The FOMC changed the size of the overnight reverse repo (RRP) operations participation limit, increasing the cap from $30 billion to $80 billion per counterparty, to support a floor on short rates. At quarter-end, the RRP rose to $134.307 billion in volume, underscoring this dynamic and highlighting reduced dealer repo availability. We continued to be proactive in extending maturities when relative value prevails, opting to purchase Treasuries across the yield curve while keeping a fair amount in overnight repos collateralized by U.S. Treasuries. We continue to ensure high levels of liquidity and manage the portfolio to be responsive to changes in market conditions and interest rate levels.

 
 
 
12 Month Performance Periods to Latest Month End (%)
 

Past performance is not a reliable indicator of future results. The net perfo­­rmance data shown is calculated net of annual fees. The sources for all performance and Index data is Morgan Stanley Investment Management. Please visit our website www.morganstanley.com/im to see the latest performance returns for the fund’s other share classes.

 
 

1 Source: Bloomberg.

 

 
 
 
The Global Liquidity team aims to effectively meet clients’ unique cash and working capital needs, offering a broad range of money market funds, ultra short bond funds and customized separate account solutions.
 
 
 
 
 

Institutional Distributing and Institutional Accumulation Share Class Risk and Reward Profile

 
 

The risk and reward category shown is based on historic data.

  • Historic figures are only a guide and may not be a reliable indicator of what may happen in the future.
  • As such this category may change in the future.
  • The higher the category, the greater the potential reward, but also the greater the risk of losing the investment. Category 1 does not indicate a risk free investment.
  • The fund are in this category because they invest in money market securities and the funds simulated and/or realised return have experienced low rises and falls historically.

This rating does not take into account other risk factors which should be considered before investing, these include:

  • The value of bonds are likely to decrease if interest rates rise and vice versa.
  • Issuers may not be able to repay their debts, if this happens the value of your investment will decrease. This risk is higher where the fund invests in a bond with a lower credit rating.
  • The fund rely on other parties to fulfill certain services, investments or transactions. If these parties become insolvent, it may expose the funds to financial loss.
  • While it is intended that the distributing share classes will maintain a share price of €1/$1/£1 this may not be achieved due to the creditworthiness of the issuers of investments held or changes in interest rates.

Past performance is no guarantee of future results.

Please refer to the Prospectus for full risk disclosures. All data as of 31 March 2021 and subject to change daily.

INDEX INFORMATION

One week Euro LIBID Index – One week London Interbank Bid Rate - The average interest rate which major London banks borrow Eurocurrency deposits from other banks. One Month Euro LIBID Index – One month London Interbank Bid Rate - The average interest rate which major London banks borrow Eurocurrency deposits from other banks. Euro Overnight Index Average (EONIA) – the standard interest rate at which banks provide loans to each other with a duration of 1 day within the Eurozone. FTSE 1 Month Treasury Bill Index – index calculated by FTSE that is an average of the last one month Treasury bill month-end rates. One Week USD LIBID Index – 1 week London Interbank Bid Rate - The average interest rate which major London banks borrow deposits from other banks. One Month USD LIBID – 1 month London Interbank Bid Rate - The average interest rate which major London banks borrow deposits from other banks. FED Funds – excess cash reserves that commercial banks and other financial institutions deposit at regional Federal Reserve banks; these funds can be onward lent to other market participants with insufficient cash on hand to meet their lending and reserve needs. One Week GBP LIBID Index – 1 week London Interbank Bid Rate - The average interest rate which major London banks borrow deposits from other banks. One Month GBP LIBID – 1 month London Interbank Bid Rate - The average interest rate which major London banks borrow deposits from other banks. SONIA – the standard interest rate at which banks provide loans to each other with a duration of 1 day within the Sterling market.

DEFINITIONS

Weighted average maturity (WAM) – measures the weighted average of the maturities of the portfolio’s individual holdings, taking into account reset dates for floating rate securities. Weighted average life (WAL) – measures the weighted average of the maturities of the portfolio’s individual holdings. Public Debt Constant Net Asset Value (CNAV) MMF – a MMF qualifying and authorised as a Public Debt CNAV MMF in accordance with MMF Regulation which seeks to maintain a stable NAV and invests 99.5% of its assets in money market instruments issued or guaranteed by sovereign entities, reverse repurchase agreements secured with government debt and cash. Low Volatility Net Asset Value (LVNAV) MMF – a MMF qualifying and authorised as a LVNAV MMF in accordance with MMF Regulation which seeks to maintain a stable NAV under the condition that the stable NAV does not deviate from the NAV per Share by more than 20 basis points. In case of a deviation of more than 20 basis points between the stable NAV and the NAV per Share, the following redemption or issue of Shares shall be undertaken at a price that is equal to the NAV per Share.

DISTRIBUTION

This communication is only intended for and will only be distributed to persons resident in jurisdictions where such distribution or availability would not be contrary to local laws or regulations. In particular, the Shares are not for distribution to US persons.

Ireland: MSIM Fund Management (Ireland) Limited. Registered Office: The Observatory, 7-11 Sir John Rogerson's Quay, Dublin 2, D02 VC42, Ireland. Registered in Ireland as a private company limited by shares under company number 616661. MSIM Fund Management (Ireland) Limited is regulated by the Central Bank of Ireland. United Kingdom: Morgan Stanley Investment Management Limited is authorised and regulated by the Financial Conduct Authority. Registered in England. Registered No. 1981121. Registered Office: 25 Cabot Square, Canary Wharf, London E14 4QA, authorised and regulated by the Financial Conduct Authority. Dubai: Morgan Stanley Investment Management Limited (Representative Office, Unit Precinct 3-7th Floor-Unit 701 and 702, Level 7, Gate Precinct Building 3, Dubai  International Financial Centre, Dubai, 506501, United Arab Emirates. Telephone: +97 (0)14 709 7158). Germany: MSIM Fund Management (Ireland) Limited Niederlassung Deutschland, Grosse Gallusstrasse 18, 60312 Frankfurt am Main, Germany (Gattung: Zweigniederlassung (FDI) gem. § 53b KWG). Italy: MSIM Fund Management (Ireland)Limited, Milan Branch (Sede Secondaria di Milano) is a branch of MSIM Fund Management (Ireland) Limited, a company registered in Ireland, regulated by the Central Bank of Ireland and whose registered office is at The Observatory, 7-11 Sir John Rogerson's Quay, Dublin 2, D02 VC42, Ireland. MSIM Fund Management (Ireland) Limited Milan Branch (Sede Secondaria di Milano) with seat in Palazzo Serbelloni Corso Venezia, 16 20121 Milano, Italy, is registered in Italy with company number and VAT number 11488280964. The Netherlands: MSIM Fund Management (Ireland) Limited, Rembrandt Tower, 11th Floor Amstelplein 1 1096HA, Netherlands. Telephone: 31 2-0462-1300. Morgan Stanley Investment Management is a branch office of MSIM Fund Management (Ireland) Limited. MSIM Fund Management (Ireland) Limited is regulated by the Central Bank of Ireland. France: MSIM Fund Management (Ireland) Limited, Paris Branch is a branch of MSIM Fund Management (Ireland) Limited, a company registered in Ireland, regulated by the Central Bank of Ireland and whose registered office is at The Observatory, 7-11 Sir John Rogerson's Quay, Dublin 2, D02 VC42, Ireland. MSIM Fund Management (Ireland) Limited Paris Branch with seat at 61 rue de Monceau 75008 Paris, France, is registered in France with company number 890 071 863 RCS. Spain: MSIM Fund Management (Ireland) Limited, Sucursal en España is a branch of MSIM Fund Management (Ireland) Limited, a company registered in Ireland, regulated by the Central Bank of Ireland and whose registered office is at The Observatory, 7-11 Sir John Rogerson's Quay, Dublin 2, D02 VC42, Ireland. MSIM Fund Management (Ireland) Limited, Sucursal en España with seat in Calle Serrano 55, 28006, Madrid, Spain, is registered in Spain with tax identification number W0058820B.  Switzerland: Morgan Stanley & Co. International plc, London, Zurich Branch Authorised and regulated by the Eidgenössische  Finanzmarktaufsicht (“FINMA”). Registered with the Register of Commerce Zurich CHE-115.415.770. Registered Office: Beethovenstrasse 33, 8002 Zurich, Switzerland, Telephone +41 (0) 44 588 1000. Facsimile Fax: +41(0) 44 588 1074.

IMPORTANT INFORMATION

EMEA: This marketing communication has been issued by MSIM Fund Management (Ireland) Limited. MSIM Fund Management (Ireland) Limited is regulated by the Central Bank of Ireland. MSIM Fund Management (Ireland) Limited is incorporated in Ireland as a private company limited by shares with company registration number 616661 and has its registered address at The Observatory, 7-11 Sir John Rogerson’s Quay, Dublin 2, D02 VC42, Ireland.

This document contains information relating to the sub-fund (“Fund”) of Morgan Stanley Liquidity Funds, a Luxembourg domiciled Société d’Investissement à Capital Variable. Morgan Stanley Liquidity Funds (the “Company”) is registered in the Grand Duchy of Luxembourg as an undertaking for collective investment pursuant to Part 1 of the Law of 17th December 2010, as amended. The Company is an Undertaking for Collective Investment in Transferable Securities (“UCITS”).

The Funds are not a guaranteed investment and are different from an investment in deposits. The Funds do not rely on external support for guaranteeing the liquidity of the Funds or stabilising the NAV per share. The value of investments and the income from them may go down as well as up and you may not get back the amount you originally invested.

The Funds are authorised to invest up to 100% of their assets in Money Market Instruments issued or guaranteed separately or jointly by a Sovereign Entity and by any other member states of the OECD and their central authorities or central banks subject to certain conditions. Please see Prospectus for further details.

Applications for shares in the Funds should not be made without first consulting the current Prospectus, Key Investor Information Document (“KIID”), Annual Report and Semi-Annual Report (“Offering Documents”), or other documents available in your local jurisdiction which is available free of charge from the Registered Office: European Bank and Business Centre, 6B route de Trèves, L-2633 Senningerberg, R.C.S. Luxemburg B 29 192.

Any index referred to herein is the intellectual property (including registered trademarks) of the applicable licensor. Any product based on an index is in no way sponsored, endorsed, sold or promoted by the applicable licensor and it shall not have any liability with respect thereto.

The views and opinions expressed are those of the portfolio management team at the time of writing/of this presentation and are subject to change at any time due to market, economic, or other conditions, and may not necessarily come to pass. These comments are not representative of the opinions and views of the firm as a whole. Holdings, countries and sectors/region weightings are subject to change daily. All information provided is for informational purposes only and should not be deemed as a recommendation to buy or sell securities in the sectors and regions referenced. Information regarding expected market returns and market outlook is based on the research, analysis, and opinions of the team. These conclusions are speculative in nature, may not come to pass, and are not intended to predict the future of any specific Morgan Stanley Investment Management investment. Past performance is no guarantee of future results.

The material contained herein has not been based on a consideration of any individual client circumstances and is not investment advice, nor should it be construed in any way as tax, accounting, legal or regulatory advice. To that end, investors should seek independent legal and financial advice, including advice as to tax consequences, before making any investment decision.

The information contained in this communication is not a research recommendation or ‘investment research’ and is classified as a ‘Marketing Communication’ in accordance with the applicable European or Swiss regulation. This means that this marketing communication (a) has not been prepared in accordance with legal requirements designed to promote the independence of investment research (b) is not subject to any prohibition on dealing ahead of the dissemination of investment research.

MSIM has not authorised financial intermediaries to use and to distribute this document, unless such use and distribution is made in accordance with applicable law and regulation. MSIM Ireland shall not be liable for, and accepts no liability for, the use or misuse of this document by any such financial intermediary. If you are a distributor of the Morgan Stanley Liquidity Funds, some or all of the funds or shares in individual funds may be available for distribution. Please refer to your sub-distribution agreement for these details before forwarding fund information to your clients.

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This document may be translated into other languages. Where such a translation is made this English version remains definitive. If there are any discrepancies between the English version and any version of this document in another language, the English version shall prevail.

 

Please be aware that liquidity instruments may be subject to certain additional risks. Fixed-income securities are subject to the ability of an issuer to make timely principal and interest payments (credit risk), changes in interest rates (interest-rate risk), the creditworthiness of the issuer and general market liquidity (market risk). In a rising interest-rate environment, bond prices may fall. In a declining interest-rate environment, the portfolio may generate less income.

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