UPDATE 1-U.S. prime money funds cut euro zone debt in March

Thu Apr 12, 2012 10:12am EDT

* Funds reduce euro zone debt after two months of increases

* Funds pare overall global bank exposure in March

* JPMorgan cites quarter-end withdrawals, Moody's review

* Some big funds bought euro zone bank CPs/CDs in March

By Richard Leong

NEW YORK, April 12 (Reuters) - U.S. prime money funds lowered their holdings of euro zone bank securities in March after two months of increases, primarily due to quarter-end withdrawals, J.P. Morgan analysts said in a report released late Wednesday.

These ultra short-term investments, which are seen as alternatives to bank accounts, reduced their euro zone bank holdings by $20 billion in March to $191 billion.

U.S. prime money funds invest in on non-U.S. government debt, as well as very short-term instruments as repurchase agreements (repos) and short-dated corporate debt. By contrast, government-only money funds invest only in U.S. Treasuries and agency securities.

Despite a modest increase in euro zone securities in the early months of 2012, prime money funds are holding far fewer of them than a year ago.

In March 2011, they held nearly $800 billion of euro zone bank debt, which was equivalent to half of their total assets. At the end of March this year, their euro zone holdings were $191 billion or 13.6 percent of their combined assets, according to J.P. Morgan.

In January and February, the prime money funds raised their holdings in euro zone bank securities by a total of $57 billion on improved sentiment after the European Central Bank injected more than 1 trillion euros in cheap loans into the banking system and a bailout for Greece so it could avert a chaotic default.

The drop in euro zone bank holdings in March was part of a larger $67 billion decrease in global bank exposure among prime money funds.

Overall, prime money funds saw $49 billion in outflows in March to $1.409 trillion, as they sold repos, time deposits and other most liquid assets in their portfolios in anticipation of quarter-end redemption from institutional investors and corporate treasurers, according to J.P. Morgan analysts.

"Because most repo and time deposits held by (prime) money funds are overnight in maturity, large seasonal outflows are often met with cash from these liquid investments," they wrote in their monthly report on money fund holdings.

While much of the month's decline in fund assets stemmed from quarter-end activity, some of it could be attributed to nagging worries whether Spain, Italy or another heavily indebted euro zone nation might require a financial rescue, they said.

There is also growing nervousness about the upcoming decision from Moody's Investors Service on whether it may downgrade a number of global banks and financial institutions.

If Moody's were to downgrade these companies' short-term credit ratings, some money funds that hold their debt could be forced to sell it, analysts said.

Worries about the Moody's rating decisions, which are expected to be handed down in the first half of May, might have accelerated the flight from money funds since the start of the second quarter.

Overall money fund assets fell for a sixth straight week to $2.564 trillion in the week ended April 10, which was a fresh eight-month low, the Money Fund Report said on Wednesday.

RISK APPETITE FOR EUROZONE

As the end of the first quarter approached, prime funds switched some $18 billion from riskier bank holdings into U.S. Treasuries, according to J.P. Morgan analysts.

There was evidence some large funds raised their stakes in the commercial paper and certificates of deposit issued by French, German and Dutch banks in March, they said.

Their combined holdings in these unsecured debt from euro zone banks were $107 billion in March, up $14 billion from February. But they were down $223 billion from May 2011 which marked the flare-up of the euro zone debt crisis last year.

The analysts added these big funds stuck to buying euro zone bank CPs and CDs with short maturities. The average final maturities on the unsecured debt they bought from French banks are a little more than two weeks, and those they bought from German and Dutch banks are about two months.

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