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Do Low Rates Encourage Yield Seeking by Money Market Funds?

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Abstract

The term “reach for yield” refers to investors’ tendency to buy riskier assets in hopes of securing higher returns. Do low rates on safe assets encourage such yield-seeking behavior, particularly among U.S. prime money market funds (MMFs)? In a forthcoming paper in the Journal of Financial Economics, I develop a model of MMF competition to understand whether competitive pressure leads these funds to reach for yield in a low-rate environment like the current one. I test the model’s predictions on the 2002-08 period and show that, after controlling for changes in risk premia, declines in risk-free rates actually reduced MMF risk-taking, leading to a “reach for safety.”

Suggested Citation

  • Gabriele La Spada, 2018. "Do Low Rates Encourage Yield Seeking by Money Market Funds?," Liberty Street Economics 20180307, Federal Reserve Bank of New York.
    • Handle: RePEc:fip:fednls:87246
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    More about this item

    Keywords

    relative performance competition; money market funds; reach for yield;
    All these keywords.

    JEL classification:

    • G2 - Financial Economics - - Financial Institutions and Services

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