The SEC is proposing two alternatives for amending rules that govern money market mutual funds pursuant to Rule 2a-7 under the Investment Company Act. The release provides a substantial discussion of the role of money market funds in the 2008 financial crisis, as well as some discussion of prior and subsequent valuation and liquidity problems experienced by money market funds. According to the SEC, the two alternatives proposed by the SEC are designed to address money market funds’ susceptibility to heavy redemptions, improve their ability to manage and mitigate potential contagion from such redemptions, and increase the transparency of their risks, while preserving their benefits.
- Alternative One: Floating NAV – This proposed alternative would require that all institutional prime money market funds operate with a floating net asset value (“NAV”). This approach would preserve the stable value fund product for those retail investors who have found it to be convenient and beneficial.
- Alternative Two: Liquidity Fees and Redemption Gates – This proposed alternative seeks to directly counter potentially harmful redemption behavior during times of stress. Under this model, a non-government money market fund would impose a two percent liquidity fee (the SEC requested comment on the size of the fee) if the fund’s level of weekly liquid assets fell below 15 percent of its total assets unless the fund’s board determined that the fee was not in the best interests of the fund. Additionally, redemption gates could be imposed. In effect, an investor that wanted to obtain immediate liquidity in a period of market crisis would be assessed a substantial penalty on redemption, if it were able to redeem at all.
The SEC could adopt either alternative by itself or a combination of the two alternatives. The SEC also is proposing additional amendments that are designed to make money market funds more resilient by increasing the diversification of their portfolios, enhancing their stress testing, and increasing transparency by requiring money market funds to provide additional information to the SEC and to investors. The proposal also includes amendments requiring the investment advisers to certain unregistered liquidity funds, which can resemble money market funds, to provide additional information about those funds to the SEC.
Government security money market funds and “retail” money money market funds might be exempted from the alternatives. A “retail” fund would be defined as a fund that limited redemptions by any individual investor to $1 million a day. The release contains an extensive discussion of how this $1 million limit might be monitored where investment in a money market fund is made through an omnibus account where the actual investors are not known to the money market fund.
The release notes that the changes made in the regulation of money market funds would have ripple effects beyond the securities laws; e.g., they would effect the tax treatment of investments in such funds and they might potentially affect the accounting treatment of such funds. In addition, the changes could significantly affect operational processes in the securities markets; for example, an investor purchasing shares on the stock market could not be assured that the cash required to pay for those shares could be raised by redeeming the number of money market shares equal to the number of dollars of cash required to pay for the shares.
Comments Due: September 17, 2013.
Lofchie Comment: The release states that there is currently approximately $2.9 trillion invested in money market mutual funds. The release notes that the changes in the money market fund rules will likely have a material effect on investment patterns; i.e., on whether that $2.9 trillion stays invested in money market funds, and, even to the extent it does, that the types of funds that receive investor money will change. In short, the rule will materially affect not only investors and financial intermediaries but also issuers raising capital. One other consequence may be an increased demand for government securities to be held by money market funds (as money market funds will be exempt from certain of the new requirements) at the same time that Dodd-Frank regulations also require market participants to post government securities as collateral in connection with derivative transactions. The SEC appropriately concedes that the full effect of these proposed regulatory changes is impossible to predict.