Bill McNabb may soon be facing some hard choices regarding Vanguard's [see profile] money market mutual fund business. The problem for Vanguard is the same as for other money fund giants: short term rates are less than a handful of basis points.

In the Independent Adviser for Vanguard Investors, editor Dan Wiener reports that, during fiscal 2011 (which ended August 31, 2011), the low-cost fund titan shelled out $1.82 million to waive fees on its $15.3-billion Treasury Money Market and $4.8-billion Federal Money Market funds.

Wiener isn't worried, offering that "$1.82 million isn't a hardship for the good ship Vanguard."

Yet other big firms have recently been forced to take steps to address continued low yields (three-month Treasuries stood at two basis points yesterday). Bank of New York Mellon has already infamously started charging institutional clients for banking their cash. And Schwab, facing $165 million in quarterly money fund fee waivers for the forseeable future, is now trying to move its money fund investors into its higher-yielding bank sweep products [see MFWire.com, 10/27/2011].

Vanguard's waivers aren't approaching Schwab's in size yet, but Schwab and BNY have one significant advantage over Vanguard when it comes to riding out this mess. Both BNY and Schwab can access the capital markets, raising capital or issuing debt, thanks to being publicly traded; Vanguard, being mutually owned, cannot.

Philosophically, Vanguard should have no trouble justifying temporarily subsidizing its money funds with $1.82 million from its higher-yielding funds' profits. Yet how long can Vanguard keep that up? According to Wiener, the firm has already given up on yield support for another money fund product, Money Market Annuity, "which has lot money every month this year."

Yet Vanguard's also has some good money fund news. Rebecca Katz, a spokeswoman for the firm, argued that "Vanguard's extremely low expense ratios have been a great advantage in this declining interest rate environment."

"During the 2011 fiscal year, our largest money market fund, Prime Money Market Fund, continued to produce a positive yield while investing only in very high-quality instruments, without limiting operating expenses," Katz stated. "This low-yield environment has underscored how critical it is for bond and money market investors to seek low-cost mutual funds." 

Edited by: Neil Anderson, Managing Editor


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