The Securities & Exchange Commission is completing its proposed rules for shoring up the $2.7 trillion money market mutual fund industry. Industry isn’t happy. You can read about the reforms in the Wall Street Journal and the Financial Times. It looks to be a battle royal. That’s too bad, since the reforms would help boost investor confidence in the product.
Regulators hope that the new rules — if adopted — would help head off a reprise of the 2008 run on the industry. The concern is real. The incipient flight on the money market mutual fund industry contributed to the worsening global credit crunch in 2008.
A quick glance back: Investors expect their money market funds not to “break a buck.” A $1 investment should be worth at least a dollar no matter what. There were some minor exceptions, but the industry pledge held up well, beginning when the innovative product was introduced in the early 1970s. But on Sept. 16, 2008, the $51 billion Reserve Primary Fund closed when losses on debt issued by Lehman Brothers Holdings pushed its share price below a buck. When it looked like a number of other funds were poised to follow and break a buck during the depths of the financial crisis, the U.S. Treasury successfully stepped in and stabilized the market.
The SEC has already instituted a number of changes to bolster the market’s stability, largely focusing on transparency and the quality of the underlying assets. The next round of rules would be much stricter, if adopted. For one thing, the SEC wants to scrap the funds’ fixed $1 net asset value. Instead, let the net asset value fluctuate like other mutual funds. It also has a number of ways for funds to boost their capital — a traditional finance bulwark against future losses.
Industry is unhappy because a floating rate could reduce the appeal of investing in a money market mutual fund and more capital would eat into returns. Industry is right on both counts.
So what? The risk is real, not imagined. It needs to be dealt with. I especially like the idea of a floating net asset value. It’s a more accurate gauge of what’s happening with the underlying securities. Capital is a hedge against bad times. And more capital will reduce investor returns. Both seem to me to be the new reality of investing in money market mutual funds.
My reaction is why would anyone put their really safe money into one? You can’t trust the pledge not to break a buck — at least not with your safe money, the money that you’re depending on to be there in tough times like 2008. And taxpayers should not be on the hook for backing the industry’s pledge.
To be clear, I don’t think the risk is huge. The quality of the underlying assets is high and short-term. I also think a money market mutual fund is a reasonable investment alternative among fixed income choices, depending on market conditions. It isn’t an alternative to an FDIC insured savings account, however. A money market mutual fund isn’t as safe as savings in the bank and the credit union.
That’s the real message: You can’t escape the risk that a fund may break a buck or that there might be another run on funds. Caveat emptor.
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