Searching For Quality Commercial Paper Programs

Regulatory changes and GE Capital’s exit from the commercial paper market could pose a big problem for corporate treasury departments.

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In a surprise announcement in April, General Electric CEO Jeffrey Immelt brought to light the company’s plan to unload most of the assets of its finance subsidiary, GE Capital. Immelt noted that the conglomerate aims to sell off everything except divisions that, among other things, help finance the purchase of the company’s big-ticket items, like jet engines and wind turbines.

Analysts applauded the move. But GE’s unexpected exit may not be welcome news for corporate treasurers. Combined, GE and GE Capital account for around 40% of US direct-issue commercial paper (CP)—the short-term loans used by finance departments to help manage cash. Lance Pan, director, investment research and strategy at Capital Advisors Group, reckons the dismantling of GE Capital will ultimately reduce the direct-issue CP market by 23%—a major hit.

Compounding the problem: Banks are scooping up high-rated commercial paper to meet liquidity coverage requirements set out in Basel III. Credit downgrades of some regular issuers have also cut into supply. According to the Federal Reserve, the seasonally adjusted amount of US commercial paper outstanding hit a 30-month low in late May.

Indeed, the shrinking of GE Capital does not come at a particularly good time for corporate investors. “Corporations hold record levels of cash,” notes Greg Fayvilevich, a director in Fitch Ratings’s Fund and Asset Managers Group. “The demand for short-term paper is as strong as ever.”

On the issuance side, this is, of course, a boon. The tight supply of short-term corporate debt has put issuers in the driver’s seat—at least for the moment. According to data compiled by Bloomberg, 30-day CP rates in the US stand as 13 basis points. That’s well below the 18-basis-point five-year average, the Bloomberg information shows.

Some industry watchers point out that overall CP issuance remains relatively steady. And given low borrowing costs, corporate issuers are increasingly issuing longer-dated debt—bonds that offer a higher yield than short-term securities.

The higher interest is drawing plenty of attention from treasury investment professionals. Data from Clearwater Analytics shows that companies upped their holdings of corporate bonds by 0.6% as of May 1. That pushed the average allocation to corporate debt to 48%—a record high. In contrast, allocation in commercial paper saw the biggest monthly decline of all asset classes, shrinking to 5.7% of corporate cash investments. Clearwater said the drop-off was owing to lack of supply.

Some institutional investors are purchasing commercial paper with longer maturities. The gain is obvious but not necessarily compelling. As of June 8, rates for one-day, AA-rated nonfinancial commercial paper hovered around eight basis points, according to the US Federal Reserve. By comparison, 90-day CP paid a mere 11 basis points. Moreover, longer-dated securities can hamstring a treasury department’s ability to move cash swiftly. In a note to clients, Pan warned investors to “think twice before sacrificing precious portfolio liquidity to pick up slightly higher yield in this low-yield environment.”

Meantime, Securities and Exchange Commission regulations targeting another cash management staple, money market funds, could ease the commercial paper shortfall. The rules, which are set to kick in next year (see “Re-weight And See,” p. 24), require institutional prime funds—funds that cater to corporations and are typically large buyers of commercial paper—to maintain a floating-rate net asset value. The switch from a stable $1 value will likely dim the appeal of the funds, which hold an estimated 25% of their $1 trillion in assets in commercial paper. Asset managers like Fidelity Investments already have plans to close or convert some short-term money market offerings.

The switch will leave far fewer buyers of commercial paper and force issuers to up the rates on the short-term, zero-coupon bonds. Good news? For buyers, yes, but not for sellers of commercial paper. Banks, which are big issuers of CP, must find other forms of funding—an expensive proposition. One analyst estimates that Fidelity’s plan to move nearly all the holdings in its Cash Reserves Fund to government securities will leave banks with a $100 billion funding gap.

The move from the stable net-asset value will ripple other lakes as well. Certainly, the prospect of losing money in a fund designed to preserve investors’ capital won’t play well in corporate conference rooms. Says Fitch’s Fayvilevich: “Most CFOs can’t live with that possibility.”

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