Tax-Free Money Fund Yields Top Taxables by `Record'

Tax-exempt money-market mutual funds yielded twice as much as taxable funds, as rates on variable municipal debt issued by borrowers including New York City more than tripled amid upheaval on Wall Street.

Tax-free money funds offered an average one-day annualized yield of 4.19 percent yesterday, compared with 2.08 percent for taxable funds, according to indexes from Crane Data. For income taxpayers in the top 35 percent federal bracket, the tax-exempt yield represents a taxable equivalent of 6.45 percent, or more than 1 percentage point higher than the yield on Pfizer Inc. bonds due in March 2018.

``I'll eat my hat if that's not a record,'' said Peter Crane, president of the money-fund research firm, based in Westborough, Massachusetts.

Yields on variable-rate demand notes, state and local government debt favored by money funds, rose as high as 10 percent as banks that set the interest daily or weekly seek to avoid being overwhelmed by inventories of unsold securities. Daily variable rates on New York City general obligation bonds whose remarketing agent is Citigroup Inc. rose as high as 9 percent today, up threefold from Sept. 15.

For variable issues with rates adjusted daily, yields of 9 percent were widespread today, while 10 percent rates were available yesterday, said Pam Tynan, senior portfolio manager for the $23.5 billion Vanguard Tax-Exempt Money Market Fund, the nation's largest.

Investor Withdrawals

Investors pulled a total of $13 billion from tax-free money funds on Sept. 19 and yesterday, even as taxable funds reported inflows, according to data from iMoneyNet, also of Westborough, after the U.S. government agreed to insure the investment vehicles temporarily against losses.

It wasn't until Sept. 21 that the Treasury Department clarified in a statement that tax-exempt money funds would be eligible for the program. The lag in clarification may have led some investors to avoid the tax-exempt funds in favor of taxable ones, Crane said.

The U.S. sought to assure investors in funds that are used as a place to park cash after Reserve Primary Fund, the oldest money-market fund in the country, became the first in 14 years to expose shareholders to losses by falling below $1 a share.

Lehman Brothers Holdings Inc.'s bankruptcy and Merrill Lynch & Co.'s forced sale last week prompted money funds to ``pare down their risk substantially,'' said Paul Brennan, who oversees about $12 billion in municipal bonds as portfolio manager at Nuveen Asset Management in Chicago.

Dealers aren't ``really willing to buy bonds and inventory them because they've got their own set of problems,'' so they are raising rates, Brennan said. ``Eventually, those high yields will attract more nontraditional investors, but that takes time. There's probably billions and billions that are going to have to be moved.''