Tax-exempt money market funds posted an $11.5 billion increase in assets during the first quarter of 1994 -- the largest gain among any of the major categories of municipal bond holders, according to the Federal Reserve's Flow of Funds Accounts.

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The short-term funds saw assets rise to $114.9 billion in the quarter, compared with the end of 1993, as they surpassed bank personal trusts to become the fourth largest holder of municipals. The personal trusts saw assets grow by $2.9 billion to $112.3 billion.

George D. Friedlander, a managing director at Smith Barney Inc. in the portfolio strategy and fixed-income high net worth unit, attributes some of the money fund gains to investors' moving cash from shortterm taxable instruments into the municaipal sector.

Households, which surpassed commercial banks to become the largest holder of municipals in 1984, had a modest decline in holdings, to $478.2 billion from $480.8 billion, the Fed figures show.

However, the household figure may be somewhat misleading, Friedlander said, because the Fed is unable to get an accurate accounting from individuals on their holdings. All other sectors report their holdings directly to the government, he said.

Smith Barney calculates that approximately $1.4 trillion of municipals was outstanding at the end of 1993, about $142 billion more than the Federal Reserve shows, Friedlander said. The discrepancy occurs because of the way the government calculates the amount of refunded bonds outstanding, he said.

Friedlander estimates that the addition of those refunded securities actually translates into a dramatic gain for households holdings in 1993. The figures also would show an uptick in household assets in the first quarter, Friedlander said.

"This glitch actually changes everything because the residual affects the most important sector -- households," Friedlander said. The Public Securities Association is trying to get the government to change the way it calculates the numbers, the analyst said.

Rising interest rates did pull individuals into the market as direct buyers in late March and April, said Richard A. Ciccarone, director of tax-exempt fixed-income research at Kemper Securities Inc. During the first quarter, Federal Reserve tightening moves, coupled with economic uncertainty, pushed bond yields up by about 100 basis points, Ciccarone said.

Mutual funds remained the second largest holder of municipals, as assets grew by a modest $3.1 billion to $221 billion. The increase was the smallest for the sector since 1987, Ciccarone said.

The first tax-exempt bond funds were introduced in 1976, and the first money market funds arrived in 1977. The bond funds did not become a significant factor in the market until 1991, when their assets surpassed those of commercial banks and funds became the second largest holder.

Commercial banks were the sixth largest holder in the first quarter, with $99.8 billion.

The asset flow for money market funds and mutual funds should begin reversing itself in the third quarter, forecasts Jeff Augustine, a vice president and portfolio manager with Colonial Mutual Funds.

"It wouldn't surprise me that money would flow back into long-term bond funds because of the relative value that we see there," Augustine said.

Around that time, market volatility will begin to decrease, and economic figures will illustrate that growth is slowing, the portfolio manager said.

"The high level of return on Treasuries will contract," helping to bring "tax-sensitive, income-oriented buyers" back into tax-exempt bond funds, Augustine said.

During the first quarter, market volatility also caused brokers and dealers to sell bonds, as their holdings dropped by $4.6 billion, to $12.5 billion.

"I think by quarter-end they had to cut and run," Augustine said. "I think broker-dealer accounts threw in the towel" as rates climbed higher.

Improved profitability helped property and casualty insurers maintain their standing as the third largest holder, analysts said. Their municipal assets inched up by $1.1 billion in the first quarter to $139.4 billion.

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