The debate over the US Federal Reserve’s controversial plans to increase regulations overseeing the US$2.6 trillion money market fund (MMF) industry is coming to a head, as the Securities and Exchange Commission (SEC) prepares to vote on whether to take the Fed’s proposals forward for public comment. Many industry experts have alleged that these reforms, which would be in addition to those introduced in 2010, may prove damaging to the industry and potentially to the greater economy.
Echoing the expert viewpoint, a majority of corporate treasurers and financial professionals have reacted negatively to the Fed’s proposals. A June survey by the Association for Financial Professionals (AFP) found that organisations would be less willing to invest in MMFs and would either reduce or eliminate holdings of MMFs in their short-term investment portfolio under the three regulatory reform proposals:
- Shift to a floating net asset value (NAV): 77% of financial professionals say their organisation will either stop investing in MMFs or monitor the NAV and divest of holdings if its value falls.
- Impose redemption holdbacks: four in five financial professionals say their organisation would stop investing in MMFs if holdback provisions are enacted.
- Seek additional reserve capital through fees: two-thirds of financial professionals say their organisation would stop investing in MMFs if reserve capital requirements are introduced.
Across the board, nearly nine in 10 financial professionals say their organisation would make changes in MMF investment if the three reforms are enacted.
In advance of the vote on 29 August, Institutional Cash Distributors (ICD) has released a 12-point ‘myth-buster’ whitepaper, in order to convince more than 320 key regulators, stakeholders and policymakers to reject the new proposals. ICD’s Intelligencer edition ‘Closing Arguments: In Defence of MMFs’ aims to provide the facts and “get them into the hands of regulators, policymakers, corporate treasurers and industry professionals”, and draws on attorney Melanie Fein’s whitepaper entitled ‘Shooting the Messenger – The Fed and Money Market Funds’.
One of the main points of the ICD publication is to counter the argument that MMFs are systemically risky. This perception stems from the September 2008 collapse of the US$62.5bn Reserve Primary Fund, which ‘broke the buck’ when it received nearly US$40bn in redemption demands in a period of just two days. This resulted in a broader run on MMFs and forced others to reduce their holdings of commercial paper.
ICD argues that the market response to the 2008 panic sell, which included the 2010 reforms and increasing transparency through advanced analytics, was the “right level” of reaction. In an interview with gtnews, ICD’s chief operating officer (COO) and chief financial officer (CFO) Tory Hazard says: “With the 2010 amendments and the exposure analytics that corporate treasurers are performing now, the one run on MMFs in their 40-year history would have been prevented. Corporate treasurers are now looking at portfolio reports on a regular basis and keeping MMFs honest. In addition, the SEC itself is looking at them on a daily basis.”
“We feel the problem has been addressed, which was proven in 2011,” he adds. “At a time when he US debt was downgraded, the eurozone crisis was full-blown and the MMF industry had a similar percentage of redemptions as in 2008, MMFs held steadfast in those headwinds.”
Doug Brown, ICD’s head of global marketing, says: “There has been a transformation within five years. There is not a corporate treasurer that doesn’t have more responsibility and probably less staff today and yet they are providing the decisions that were almost impossible in 2008. The industry rapidly fixed itself.”
Hazard outlines some of the unintended consequences of the Fed’s proposals. One is the consolidation that may happen in the industry due to the increase in capital buffers. Some MMFs will not be willing to hold back more capital, so they will exit the industry and the result will be less choice for corporate treasurers.
In addition, the floating NAV will fundamentally change the product. “The issue lies on the accounting side. Treasurers will have to mark-to-market, which makes MMFs less attractive and more costly for corporates,” says Hazard. “To do the transactions, they will have to post tiny gains or losses at some point during the day and then do the transactions after that. As a result the larger investors would get their trades through that day and put the smaller investors at a disadvantage. Therefore, many investors would be at T+1 instead of T+0, which would fundamentally change the product.”
A number of important questions are also raised: by making a drastic change and significantly reducing an important product in the marketplace, both on the investment and the financing side, what is the alternative for investors? Where are the investments going to go? How will this affect the US and global economy? According to Brown: “There are many local municipalities and cities on the brink [of insolvency]. If suddenly it becomes harder and more expensive for them to get short-term credit, then we could witness the collapse of a major city such as Detroit, Chicago or Los Angeles.”
Predicting the Outcome
ICD is waiting on “pins and needles” for the result of the vote, says Brown. When asked if he had any inkling of which way the vote might divide among SEC commissioners, Hazard says: “Rumour has it that Luis Aguilar may break ranks with [chairperson] Mary Schapiro and Elisse Walter and vote against [the proposals moving to the next stage].”
But even if the Fed’s proposals fall at this stage, the battle is far from over. Brown adds: “There is also speculation from insiders that if the SEC fails to pass these reforms for public consultation, then this issue would likely be reviewed at the FSOC [Financial Stability Oversight Committee], which includes the likes of [Timothy] Geithner and [Ben] Bernanke.” Both Bernanke and Geithner have been vocal in their support for the reforms.
The US money market fund reforms came into effect in 2016 and are already dramatically shaping US fund industry with investors flooding out of prime funds and into government securities. While the reforms are similar, they are not the same. GTNews interviews Yeng Bulter, global head of the cash business at State Street Global Advisors on the differences.
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