Regulators eyeing changes to money funds

May 8, 2011 @ 12:01 am

By Liz Skinner

Money market funds are front and center in Washington again, just 16 months after regulators tightened rules on the $2.7 trillion industry.

Regulators this week will begin considering additional ways to reduce the chances of a run on the funds like the one that occurred in September 2008 when Lehman Brothers Holdings Inc. collapsed and a money market fund that had loaned money to the investment bank “broke the buck,” or fell below $1 a share.

The Securities and Exchange Commission tomorrow will gather other regulators, industry executives and academics, to discuss the pros and cons of at least half a dozen proposals aimed at making money funds more resilient to economic turmoil.


Among those weighing in will be Treasury Undersecretary Jeffery Goldstein, Federal Deposit Insurance Corp. Chairman Sheila Bair, Paul Volcker, former chairman of the Board of Governors at the Federal Reserve, and executives from individual fund companies.

Participants will discuss “what further steps can be taken to ensure that we don't have a run on money market funds that spreads broadly throughout the financial system and has potentially profound impact,” SEC Chairman Mary Schapiro said Friday at a gathering of mutual fund executives in Washington.

She declined to provide a timeline for new rules, though industry experts said any new money fund regulation is not likely to be approved before next year.

Talk of new money fund regulation takes on greater significance as razor-thin yields drive away investors. Money fund assets now stand $1.2 trillion below the January 2009 high-water mark of $3.9 trillion, according to Crane Data LLC, which compiles money fund data.

Among the more controversial proposals that will be considered at this week's round table is one that would require funds to maintain a floating-rate net asset value.

In a 2009 proposal on the idea of a floating-rate NAV, the SEC said stable-value NAVs create an incentive for investors to redeem their shares when the NAV falls to between $0.995 and $1 because they will get $1 in exchange for fund assets worth less.

Institutional investors are likely to be the earliest redeemers, while smaller, “more passive” money fund investors typically bear the losses, the SEC said.

Moving to a floating NAV would eliminate the ability of shareholders to redeem their shares for more than the current market value.

The fund industry is opposed to a floating-rate NAV, saying it would introduce new risks to the financial system.

Rules that require money funds to have a floating NAV “would be an accounting nightmare” for companies, and the benefits of moving to such a system have not been shown, said Peter Crane, president of Crane Data.

Another proposal calls for the creation of an industry-sponsored emergency pool of money that would act as a backstop in the event of a run on money market funds. The money, which would come from funds and fund companies, would be used to provide liquidity to money market funds in an emergency.

The SEC also is likely to consider a proposal to regulate money funds as special-purpose banks, subjecting them to banking oversight and regulation — including reserve requirements. That proposal is widely thought to have the backing of the Federal Reserve.


In making changes to how money funds are regulated, the SEC will have to consider input from a wide swath of interested parties, including fund companies and other regulators, especially the Treasury Department and the Federal Reserve.

“I have never seen the SEC in a position where a decision they make has provoked so much interest among other parts of the government and other financial institutions,” said Joel Goldberg, a partner at Stroock & Stroock & Lavan LLP.

He was the director of the SEC's Division of Investment Management in the 1980s.

In an effort to avoid the two options most feared by the industry — the floating-rate NAV or being subjected to banking regulations — three big mutual fund companies last week presented their own strategy for improving money funds.

Fidelity Management & Research Co., The Charles Schwab Corp. and Wells Fargo Funds Management LLC last Wednesday submitted a joint comment letter on the President's Working Group Report on Money Market Reform, suggesting that each fund be required to create NAV buffers to address liquidity concerns. Essentially, a buffer would consist of a pool of money — funded by taking a portion of income paid to shareholders over time — that the fund company could draw on to maintain redemptions at $1 a share.

“We are looking to prevent a crisis through the NAV buffer,” said Bob Brown, president of Fidelity Management and Research's money market group. “It would address both the liquidity and credit concerns that federal financial regulators have raised.”

Any rulemaking to come out of next week's round table would mark a second push by the SEC to improve money market fund regulation in response to the turmoil in 2008 when the NAV of Reserve Management Co.'s Reserve Primary Fund fell below $1 per share, prompting billions of dollars to flow out of money funds.

In January 2010, the SEC approved a first round of regulations requiring money funds to meet daily and weekly liquidity requirements, as well as other changes. Liquidity in money funds has increased and there has been a shift to investments with shorter and less risky maturities, the ICI said.

The President's Working Group on Financial Markets, which is charged with investigating the causes of the financial crisis, outlined eight options in October 2010 for reducing risk of money market funds. That report — which stopped short of recommending any of the plans — included the floating-NAV proposal and two other options that include creating some money funds with floating NAVs.

The ICI will keep the discussions going at its own money market summit May 16.

“The SEC is committed to a second set of changes,” said Karrie McMillan, ICI's general counsel. “The discussions will provide them with an airing of different ideas that are out there.”


The ICI said that there is no “silver bullet” for safeguarding funds against distress, but it “strongly opposes” a requirement to move to a floating NAV.

The industry group has endorsed an idea originally posed by the President's Working Group that would create a liquidity facility for “prime” money market funds.

The liquidity facility would be formed as a state-chartered bank or trust company and funded by initial payments from fund sponsors and continuing fees from member funds. All prime money market funds would be required to participate in the liquidity facility, Ms. McMillan said.

“We want to produce what's best for shareholders,” she said.

The SEC may endorse rule changes based on elements of many of the proposals on the table, said Barry Barbash, a partner at Willkie Farr & Gallagher LLP and former director of the Division of Investment Management.

“In the end, it may be a combination,” he said.

E-mail Liz Skinner at


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