Tax-exempt money market funds lost the inflows they earned last week — and then some — as a result of the $2.82 billion of outflows that fled during the week ended Aug. 17 that caused the funds to settle at $446.12 billion, according to The Money Fund Report, a service of iMoneyNet.com of Westborough, Mass.

Last week, the funds took in $2.07 billion and settled at $448.94 billion for the week ending Aug. 10.

This week, the average seven-day simple yield for the 505 tax-exempt funds fell to a new all-time low of 0.10%, dropping one basis point from last week. The average maturity, meanwhile, increased to 30 days from 29 days.

The Money Fund reported the combined assets of the 1,684 tax-exempt and taxable funds this week settled at $3.524 trillion after seeing outflows of $22.63 billion for the week ending Aug. 18. That compares to last week, when combined total assets fell by $10.93 billion, and settled at $3.547 trillion for the week ending Aug. 11.

In a new Fitch Ratings report this week, analysts cited providing adequate yield and reducing exposure to deteriorating credits — namely general obligation bonds issued by California — as two challenges among tax-exempt money market funds.

"Given the very short weighted average maturity of tax-exempt money market portfolios, they find themselves challenged to deliver yield in excess of fund expenses while not compromising portfolio credit quality in the current low interest rate environment," analysts wrote.

In June 2009, the average net seven-day annualized yield for the seven tax-exempt money market funds rated by Fitch was 0.32%, while the average weighted maturity was 20 days.

Analysts said in order to maintain a positive yield for investors, some advisers have chosen to waive all or a portion of expenses, but Fitch views this only as a feasible short-term strategy.

Doing so, it says, would increase redemption risk but "introduce economic pressures on fund sponsors over the intermediate term, potentially leading to fund consolidations or closures."

Fitch-rated funds charged an average expense ratio of 0.27% — with actual expense ratios ranging from 0.15% to 0.58% — as of June 30.

To further maintain positive yields, advisers could explore other options, but analysts said they will pay close attention to how those actions will affect the Fitch-rated funds' minimum credit quality of at least A/F1 rating level, or of comparable quality by other global rating agencies.

"Depending on the future interest rate environment, investment advisers may choose to close the funds to new investments to preserve yield for core shareholders, achieve efficiency through consolidation or seek higher return through investments in riskier securities," analysts said in the report.

Meanwhile, the Fitch report also noted that the funds it rates have reduced their exposure to riskier sectors, such as California GO bonds and certain lease appropriation bonds, as well as to U.S. banks that provide credit enhancement and liquidity to short-term municipal bond investments.

While Fitch-rated funds' allocation to issuers in California in general increased to 4.7% in 2009 from 2.1% in 2008, as of June 30, the Fitch-rated funds no longer held any GO or lease-appropriation debt issued by California. Fitch downgraded the state's GOs to BBB on July 6, given its heightened budgetary and cash-flow pressures.

Fitch said tax-exempt money market funds must also manage their credit and high concentration risks associated with exposure to third-party banks or financial institutions that provide letters of credit for variable-rate demand notes — especially given the financial pressures facing a number of the VRDN liquidity and enhancement providers.

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