Quarterly Portfolio Manager Commentary

October 2021

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First American Money Market Funds

What market conditions had a direct impact on the bond market this quarter?

U.S. Gross Domestic Product (GDP) clearly lost momentum in the third quarter (Q3). Supply shortages and transportation bottlenecks inhibited the production and distribution of goods, while at the same time driving labor, energy and input prices higher. Inflation data and the timing of Federal Reserve (Fed) rate hikes being pulled forward were the key factors of market and yield curve gyrations.

Economic Activity – U.S. GDP decelerated in Q3, with growth expectations of 3.9% after a solid 6.7% second quarter (Q2) print, although growth should remain above trend with demand outpacing supply. September’s 4.8% U3 Unemployment rate probably understates labor market tightness, as people’s willingness to return to work is increasingly uncertain. Illustrating the point, U.S. Job Openings stand at 10.439 million open positions vs. Total Unemployed Workers in the Labor Force of 7.674 million. Non-farm Payrolls (NFP) added 1.651 million jobs in the quarter, but only a disappointing 194,000 in September. NFP are down 4.97 million jobs since February 2020, despite a full recovery of GDP to pre-COVID levels. September’s ISM Manufacturing and ISM Services readings of 61.1 and 61.9 indicate significant sector expansion, but the additional output is not enough to keep pace with demand which in turn is driving inflation measures higher. The headline Consumer Price Index (CPI) hit 5.4% year-over-year (YoY) in September with CPI ex. food and energy rising 4.0% YoY. The Fed’s preferred inflation index – the PCE Core Deflator Index – grew a more modest, but still elevated, 3.6% YoY in August. Labor and supply chain issues pushing prices higher appear to be more structural in nature, challenging the Fed’s transitory thesis.

Monetary Policy – The Fed maintained its 0.00% to 0.25% federal funds target range and continued to make $120 billion in monthly asset purchases, but Fed officials are clearly considering tapering asset purchases as inflation pressures become more acute. At the September meeting, policymakers agreed liftoff for tapering in November or December at a $15 billion monthly pace was appropriate, implying an end to quantitative easing by mid-2022. For the most part, participants in the September Fed Dot Plot pulled forward the timing of future Fed rate hikes, with half the participants expecting liftoff in 2022. Federal funds futures suggest the initial rate hike will occur at either the September 21st or November 2nd meeting next year. Usage of the Federal Reserve New York’s Reverse Repo Program reached $1.604 trillion at quarter-end, a sign there is ample liquidity in the financial system with much of the Fed’s asset purchases recycling back onto the Fed’s balance sheet.

Fiscal Policy – Contentious fiscal policy debates over the size and timing of President Biden’s Build Back America plan and the stalled infrastructure bill complicated Congress’s ability to extend the federal debt ceiling. After the federal debt ceiling suspension expired in July, investors grew concerned maturing October Treasuries could face a technical default once extraordinary budget measures were exhausted. Responding to Democrat complaints there was not enough time in the legislative calendar to increase the debt ceiling through the reconciliation process, Minority Leader McConnell offered to lift the debt limit by $480 billion, providing enough room to fund the government into early December. While markets applauded the brief reprieve from debt limit concerns, December T-bill yields have already been pressured higher.

Credit Markets – Credit markets continued the trends of the last several quarters: strong primary and secondary market liquidity, high investor demand for yield, tight credit spreads and low front-end yields. Corporate credit conditions and company fundamentals remain solid, partially justifying overall low yields and spreads in investment-grade debt. Front-end U.S. Treasury yields remain under pressure from cash entering the system through the Fed’s asset purchases and the drawdown of the Treasury General Account. October T-bill yields were pressured five to 10 basis points (bps) higher due to uncertainty over the resolution of the U.S. federal debt ceiling and the potential for a technical default on maturing Treasury debt.

Yield Curve Shift

U.S. Treasury Curve

Yield Curve


Yield Curve




3 Month




1 Year




2 Year




3 Year




5 Year




10 Year




Measured from the end of Q2 to the end of Q3, there was relatively little movement in the treasury yield curve for securities maturing inside of three years, resulting in performance differentiated on the margin by incremental coupon income for longer benchmarks. Inside the quarter, however, there were significant shifts in yield curve levels, illustrated by the generic three-year treasury which varied between a low of 0.318% on August 3rd and a high of 0.555% on September 27th. Given the curve’s gyrations, longer benchmarks strongly outperformed in July, before underperforming in August and September.

The three-month to ten-year portion of the yield curve steepened a mere 2.7 bps to 145.4 bps. Three-month yields should remain near the RRP rate of 0.05%, while ten-year yields will be influenced more by inflation expectations, tapering of Fed asset purchases and progress toward solving production and transportation bottlenecks.

Duration Relative Performance

*Duration estimate is as of 9/30/2021

ICE BofA Treasury Index

Given only minor yield curve moves measured from the end of Q2 to the end of Q3, performance differentials were primarily influenced by modestly greater coupon income for longer duration benchmarks. Yields over three years did move higher vs. short-end yields, resulting in essentially neutral quarterly performance for the 1-5 Year U.S. Treasury benchmark.


Credit Spread Changes

ICE BofA Index

OAS* (bps)


OAS* (bps)




1-3 Year U.S. Agency Index




1-3 Year AAA U.S. Corporate and Yankees




1-3 Year AA U.S. Corporate and Yankees




1-3 Year A U.S. Corporate and Yankees




1-3 Year BBB U.S. Corporate and Yankees




0-3 Year AAA U.S. Fixed-Rate ABS




*OAS = Option-Adjusted Spread

Option-Adjusted Spread (OAS) measures the spread of a fixed-income instrument against the risk-free rate of return. U.S. Treasury securities generally represent the risk-free rate.

Corporate credit spreads were stable across the board, with only the BBB space seeing a mild two bps widening. Credit continues to benefit greatly from strong investor demand and the asset purchase programs of global central banks.

Credit Sector Relative Performance of ICE BofA Indexes

ICE BofA Index

*AAA-A Corporate index outperformed the Treasury index by 7.0 bps in the quarter.

AAA-A Corporate index underperformed the BBB Corporate index by 9.0 bps in the quarter.

U.S. Financials outperformed U.S. Non-Financials by 0.6 bps in the quarter.

With only minor changes in credit spreads in the third quarter and spreads already at or near historic lows, it is not surprising that performance differentials were fairly compressed across asset classes. BBB corporate credit was the stand-out performer as coupon income overwhelmed the slight widening of credit spreads in the quarter.

What were the major factors influencing money market funds this quarter?

The third quarter economic outlook continued on a more tepid but still positive tone with decent economic data and overall market optimism continuing to take hold. However, front-end yields remained challenged as technical forces pushed additional cash into the system coupled with the FOMC’s stimulative monetary policy. The money market industry remained flush with deposits while U.S. Treasury bill and Repo levels remained entrenched at the bottom of the FOMC’s fed funds target range. 

First American Prime Obligations Funds

Credit spreads remain tight, reflecting the trading ranges and yields one should expect in the current rate environment. Considering a flat yield curve and a conservative approach to cash flows, the fund was positioned with strong portfolio liquidity metrics influenced by fund shareholder makeup. Management continued to employ a heightened credit outlook maintaining positions presenting minimal credit risk to the fund’s investors. Under the current market conditions, the main investment objective was to maintain liquidity and judiciously and opportunistically enhance portfolio yield based on our economic, investor cash flow, credit and interest rate outlook. We believe the credit environment and relative fund yields make the sector an appropriate short-term option for investors.

First American Government and Treasury Funds

Treasury and government funds continued to see inflows as monetary system cash balances grew. Treasury Bill / Note supply decreases resulting from the reduction in U.S. Treasury general account pushed Government-Sponsored Enterprise (GSE) and Treasury yields to a trading range near the bottom of the FOMC’s fed funds target. With the flat yield curve there was limited extension opportunities resulting in shorter fund metrics. We also capitalized on opportunities in floating-rate investments throughout the quarter that made economic sense and felt would benefit shareholders over the securities holding period. We anticipate that investment strategy will remain constant until we near the end of the Fed accommodation cycle.

First American Retail Tax Free Obligations Fund

Outflows continued for tax exempt money market funds, albeit at a much slower pace than we witnessed in the first half of 2021. Overall assets declined by approximately $3 billion during the quarter. Demand for municipal bond funds has remained quite strong and continues to provide ample support for the entire yield curve – including front-end investments such as variable rate demand notes, commercial paper and notes. Yields have also been suppressed by limited new issuance of municipal notes. The direct payments made to municipalities earlier this year through the American Rescue Plan have significantly reduced many issuers’ cash management financing needs. The most striking example of this was the State of Texas. In 2020, Texas tapped the market for more than $7 billion in short-term notes. This year, they were completely absent from the short-term note market. Total municipal note issuance is down more than 40% vs. the previous year-to-date. These conditions have made it challenging to maintain higher allocations to fixed-rate investments.  

What near-term considerations will affect fund management?

In the coming quarters, yields will stay depressed as cash continues to saturate the front of the market. It appears the yield on non-government debt has bottomed, but supply / demand imbalances remain, keeping yields near the lower bound. We believe that prime money market fund yields are near a floor as the Fed has re-established a floor on short-term yields. In the coming quarters, prime yields should increase at the margin as supply increases and the yield curve steepens. The institutional and retail prime obligations funds will remain reasonable short-term investment options for investors seeking higher yields on cash positions while assuming minimal credit risk.

Yields in the GSE and Treasury space will remain influenced by Fed policy and Treasury bill / note supply. The Fed has demonstrated they will provide the tools necessary to normalize the repo market, foster market liquidity and keep front-end rates above zero. Moving forward, with no additional Fed policy adjustments, we anticipate T-bill / note issuance to decline, providing the sector with further challenges to invest large balances efficiently outside of the RRP. As with the non-government debt, in the coming quarters, government yields should increase at the margin as Fed commences tapering and other technical factors, such as a debt ceiling resolution, clear the market. Any large supply changes in Treasury issuance may create some yield volatility on the front end as the forces of supply and demand seek optimization. Management will continue to capitalize on investment opportunities, in all asset classes and indexes, based on domestic and global economic market data as well as changes to Fed rate expectations.

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