Autumn’s first chill is yet to be felt, but a stiff breeze is blowing in the direction of the $3.5 trillion money market fund business.
Or maybe it will be a hurricane.
What’s about to hit is the erosion or elimination of the funds’ hitherto sacrosanct $1-per-share net-asset value.
In June, the Securities and Exchange Commission put out for public comment the idea of floating net-asset value.
Next week, the Obama administration is scheduled to unveil its proposals for financial reforms, and one of them may be floating NAVs for money market funds.
Whether offered as a trial or as an institution-only product for a time, or in some other form, floating NAVs are coming — if only because the economics of the current money market business no longer work.
With interest rates thumping along near zero, there’s simply not enough spread available to operate the funds and deliver anything more than an eyelash worth of return to investors.
Many fund companies already have kicked in their own capital to keep their funds’ NAVs at $1.
That can’t continue.
Just as other bond funds fluctuate in price depending on the value of their underlying fixed-income securities, the price of money market funds should be able to reflect the ups and downs of the short-term paper that constitutes the portfolio.
Assuming money fund managers remain prudent in their securities choices, a decline in NAV to 99 cents or 98 cents shouldn’t be the end of the world — so long as investors understand what’s happening.
But that’s a big “if.”
Institutional investors, who account for about two-thirds of money fund assets, would not be fazed by a move to floating NAVs.
Deutsche Bank, in fact, has already filed a prospectus for the DWS Variable NAV Money Fund, which would require a $1 million minimum investment.
Retail investors, however, are another story.
Many, or even most, don’t understand what money market funds are, let alone the concept of floating NAVs.
Over the past 30 years, mom-and-pop investors have been conditioned to believe that money market mutual funds are the equivalent of bank deposits.
Because the shock of a $1,000 “deposit” turning into $990 or $980 overnight might be too great for millions of investors, Vanguard and Fidelity are against the idea of floating NAVs and stated their opposition clearly in comment letters to the SEC.
The fund giants said that unhitching money market funds from the $1-per-share tether would harm the funds and scare investors.
They have a point. An overnight switch to floating-rate NAVs probably would be too traumatic. More likely is either a gradual switchover or allowing traditional $1-per-share NAV funds will continue to be sold alongside floating NAV funds.
While tons of media coverage would accompany floating NAVs, the burden of investor education will still fall largely onto the shoulders of financial advisers. They’ll have to explain the NAV difference to investors and assess their clients’ tolerance for risk, even if in the case of money market funds that risk is relatively small.
So here’s my prediction: Floating NAVs in some form are coming, which will mean more work for no extra pay (and probably more legal exposure) for advisers. Just another thought to brighten your day.