LIQUIDITY | GLOBAL LIQUIDITY TEAM | MARKET INSIGHT | June 2020

As expected, the Federal Open Market Committee (FOMC) maintained the range for the federal funds rate at 0.00% - 0.25% during its June meeting. The press release noted, “Financial conditions have improved, in part reflecting policy measures to support the economy and the flow of credit to U.S. households and businesses.” While generally more upbeat than prior months, the Fed’s economic projections illustrate the deterioration caused by COVID-19. FOMC Meeting Summary1 Monetary Policy Decision

Unanimously voted to maintain the target range for the fed funds rate at 0.00%-0.25% The interest on excess reserves rate remained unchanged at 0.10% The Fed will “continue to monitor the implications of incoming information for the economic outlook, including information

related to public health, as well as global developments and muted inflation pressures, and will use its tools and act as appropriate to support the economy”

Chairman Powell expects “to maintain this target range until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals”

Economic Conditions/Projections In its updated dot plot, the FOMC illustrated that 17 out of 17 officials expect to keep rates at current levels through 2021,

while 15 of the 17 officials expect rates to remain unchanged through 2022 The FOMC projects real GDP to contract by 6.5% in 2020, but rebound significantly in both 2021 and 2022 The Fed projects the unemployment rate to increase to 9.5% in 2020, however, rebounding sharply in the following two

years While reconfirming its 2% inflation target, the Federal Reserve acknowledged a decline in near-term inflation expectations

and cut its median Personal Consumption Expenditures (PCE) and core PCE inflation forecasts for 2020 to 0.8% and 1.0%, respectively

Policy Outlook Chairman Powell said current policy is appropriate and that the Fed will continue to “act as appropriate to support the

economy” Going forward the FOMC will continue to assess public health data on the virus to help dictate policy as COVID-19 “will

weigh heavily” on economic activity and outlook over the medium term The FOMC will “increase its holdings” of Treasury securities and agency mortgage-backed securities at paces of $80 billion

and $40 billion respectively, however, illustrating the dollar figure diverges from its previous meeting which stated purchases would be conducted “in the amounts needed”

Market Insights

Fed Projected to be on Hold through 2022 while Rates Remain Unchanged in June

Forecasts/estimates are based on current market conditions, subject to change, and may not necessarily come to pass. Portfolio Commentary

Prime Strategies – Funding conditions improved throughout the month of May, with 3 month Libor rallying from 0.56% on April 30 to 0.34% on May 29. With the Fed indicating that they are “committed to using its full range of tools to support the U.S. economy,” while also pledging to keep rates near zero for some time, the market has been pricing in no changes to the benchmark policy rate until 2022. As assets continue to return to Prime funds, we maintained the duration of the portfolios by purchasing longer dated fixed rate securities, ending the month with the weighted average maturities (WAMs) of the funds in excess of 50 days. Going forward we remain comfortable managing the portfolio with elevated levels of liquid assets, helping to ensure that we uphold our mandates of capital preservation and liquidity.

Government Strategies – The U.S government continued to finance stimulus spending in the Treasury bill sector. As government money market fund inflows slowed from record inflows in March and April, bill yields started to cheapen; however, yields remained inside of 0.19% across the one-year curve. Overnight repo rates increased slightly to mid-single digits. With bill yields attractive relative to other short rates, we continued to increase our allocation in bills across Portfolios from overnight repurchase agreements. We continue to seek to ensure high levels of liquidity and manage the portfolios to be responsive to changes in market conditions and interest rate levels.

Municipal Strategies – Municipal yields continued to drop in May as market conditions returned to normalcy. June typically has some of the largest coupon inflows of the year which may place additional downward pressure on variable rate yields. Protecting the safety and liquidity of the Portfolio’s assets remained our first priority. In the recent turbulent markets, our emphasis has been on managing liquidity and exposure to sectors and issuers that may come under stress as a result of a prolonged economic slowdown caused by the global pandemic. We continue to invest in tax-exempt securities, including Variable Rate Demand Obligations (VRDOs), where our credit and risk teams have confidence in the quality of the issuer, the structure of the program, and the financial strength of the supporting institutions.

Please reach out to your Morgan Stanley Investment Management Relationship Manager with any questions, or visit www.morganstanley.com/liquidity for more information.

1 Source: FOMC June 2020 Statement

  2 Source: Federal Reserve Board, Bloomberg, Morgan Stanley Investment Management

 

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