Municipal money market fund yields still sky-high but drifting back down to earth

The federal tax-free Fidelity Municipal Money Market fund (FTEXX) reached a high 7-day yield of 5.77% last week, but is now back down to 4.76%, which is equivalent to a 7.10% taxable 7-day yield in the 35% tax bracket or 6.61% for the 28% tax bracket. Progress on The Big Bailout Bill during the week probably freed up the credit markets a bit.

Why the huge spike in yield? Probably simply because of the massive redemptions from money market funds last week which resulted in a buyers market for the very short-term tax-free securities that municipal money market funds buy and a lower price means a higher yield.

Very high yields can be a sign of trouble, but not in all cases. In the case of Fidelity money market funds it is most likely an indication that there is lower than usual demand for the securities that are in the fund (because a lot of funds are facing redemptions and selling rather than buying securities), but that is probably more a matter of excess supply and a scarcity of demand than any fundamental weakness. In other words it is probably a great time to buy.

Now, why these yield spikes are occurring for tax-free funds and not for most taxable funds is somewhat a mystery, but is probably simply related to differences in how the municipal market works. Or, maybe some of the old ARS securities have finally been repackaged to be acceptable for money market funds and that caused the glut.

I would note that a bunch of taxable money market funds are now showing up with much higher yields than the Fidelity Select Money Market fund (FSLXX) 7-day yield of 2.66% and the Fidelity Money Market fund (SPRXX) at 2.69%. According to Crane Data, there are three funds in the 3+% range and one at 4.73% that are supposedly taxable.

The $64 billion question is how long this pricing anomaly will continue or whether in fact this is part of "the new world financial order." It has been over two weeks since municipal money market funds leaped above 3%.

Fidelity (and Vanguard) still have not decided whether to participate in the Treatury guarantee program, but given their credibility it is not as important for them. For anybody other than Fidelity and Vanguard I would insist on the guarantee program.

See: Treasury's Temporary Guarantee Program for Money Market Funds including the FAQ.

-- Jack Krupansky