The Reserve Primary Fund’s “breaking the buck” in 2008 sent investors in the $2.7 trillion money-market mutual fund (MMF) market running for the exits and regulators reaching for new rules to safeguard the short-term investments. More than three years later, the Securities and Exchange Commission’s expected proposals for additional safeguards are running into vehement opposition.
The premise of stability was shattered when the net asset value (NAV) of the Reserve fund dropped below $1 a share and investors rushed to redeem their shares. The U.S. Treasury quelled the run by offering to insure MMF holdings.
In 2010, the SEC passed MMF amendments that increased liquidity requirements, reduced maturity limits and called for more disclosure. And it promised more rules to reduce the threat of runs on MMFs.
The SEC is focused “in particular on a capital buffer option to serve as a cushion for money market funds in times of emergency, and floating [net asset values], which would eliminate the expectation of stability that accompanies the $1 stable NAV,” Chairman Mary Schapiro noted in November. The capital buffer plan would require MMFs to set aside a cushion to help absorb losses and likely would include a restriction on redemptions, such as making clients maintain 5% in the fund for 30 days.
But corporate America’s largest members say more rules are excessive. “We strongly believe current rules governing money market funds strike the right balance, ensuring conservative operation and liquidity while fulfilling the cash management needs of corporations across the country,” notes a January letter to Schapiro signed by Alcoa, Kraft Foods Global, Johnson & Johnson, and other big companies, as well as the U.S. Chamber of Commerce and the Association for Financial Professionals.
The letter says moving to a floating NAV or adding a capital buffer would lessen MMFs’ attractiveness, prompting companies to move funds offshore or to other, less regulated investments. That would reduce a major source of short-term funding for U.S. companies, since MMFs purchase a third of commercial paper.
“I will not invest in a floating NAV product,” Carol DeNale, treasurer of CVS Caremark, said at an SEC-sponsored roundtable about MMFs last spring. “None of my systems, not the treasury systems or the accounting systems, have the ability to mark to market on a daily basis,” DeNale said, adding that if floating NAVs were implemented, CVS would pull out of money market funds.
A floating NAV would also have tax consequences, since companies trading MMFs daily would incur short-term capital gains and losses as the funds’ values fluctuated. “It becomes a record-keeping and tax computation exercise that would make most treasurers steer away from [MMFs],” says Tom Deas, treasurer of FMC Corp.
Fidelity Investments, which manages $433 billion in money market assets, told the SEC a survey of MMF customers shows 89% prefer a stable NAV. Switching to a floating NAV would prompt 16% to stop using MMFs altogether, while 41% would decrease their use. More than half would move assets to banks.
However daunting the prospect of a fluctuating NAV, many companies would turn to third-party technology for help. SunGard Financial Systems already supports investors in Europe, where fluctuating NAVs are prevalent, says Mike Vogel, senior vice president at SunGard, and it plans to support any new requirements that emerge in the U.S.
Sources familiar with SEC staff deliberations say the commission will likely be asked to sign off on a proposal in early spring that describes two options: a fluctuating NAV and a capital buffer coupled with a mechanism to restrict redemptions. The SEC declined to comment, but presumably other alternatives could be introduced.
Schapiro noted last fall that a capital buffer could be provided by MMF sponsors, which have tended to step up voluntarily when necessary. Capital could also come from fund shareholders or funds’ issuance of debt or subordinated equity.
HSBC recently argued that MMFs with stable and fluctuating NAVs are equally at risk of runs. It proposed a liquidity fee that ties the capital buffer to a redemption restriction. Investors redeeming MMF shares during periods of stress would be charged the fee, after a triggering event had occurred, which would go to the fund to offset the cost of rebalancing it. “So the investors who remain in the fund are not disadvantaged,” says Jonathan Curry, chief investment officer for liquidity at HSBC.
Aron Chazen, managing director of Treasury Curve, a platform for investing in MMFs, calls the SEC’s proposal positive in that it reminds investors about the risks inherent in the funds and the necessity for due diligence. Chazen adds, however, that proposals now under consideration would steer companies out of MMFs, which provide investors a low-cost way to access the expertise of large financial institutions.
For a discussion of how treasurers are dealing with current low rates, read The Search for Yield. http://www.treasuryandrisk.com/2011/10/01/the-hunt-for-short-term-yield
For an earlier look at proposals for revamping money markets regulations, see Whacking the System Over Breaking the Buck.