SEC Abandons US Money Market Fund Reform

by Glen Shapiro, LawAndTax-News.com, New York

29 August 2012

Following the opposition of three other Commissioners, Mary Schapiro, Chairman of the Securities and Exchange Commission (SEC), has had to abandon her proposals for additional regulation of the United States money market fund (MMF) industry.

She and other US regulators, including the Financial Stability Oversight Council (FSOC) and the Federal Reserve, as represented by its Chairman Ben Bernanke, have indicated their concern that further structural reforms to MMFs are a policy issue that has not been fully resolved following the financial crisis of 2008.

As a significant sector of the US financial industry with some USD2.7 trillion funds under management, Shapiro said that the purpose of the reform would be to improve market resiliency by “reducing MMFs susceptibility to runs, protect retail investors and lessen the need for future taxpayer bailouts.”

She pointed out that the financial crisis had revealed shortcomings in the functioning of the short-term credit market, which rapidly became frozen, and, while the SEC had enacted significant reforms to MMF regulations in February 2010, by tightening credit quality standards, shortening weighted average maturities, and, for the first time, imposing a liquidity requirement on the funds, those reforms were only a first step.

Therefore, Schapiro wanted the SEC to propose, for public consultation, two alternatives to reduce the vulnerability of MMFs to runs, including possibly requiring funds to maintain loss-absorbing capital buffers or to redeem shares at the market value of the underlying assets rather than the present fixed price of USD1.

A capital buffer of less than 1% of fund assets could be imposed, adjusted to reflect the risk characteristics of the MMF and combined with redemption restrictions, which would be used to absorb the day-to-day variations in the value of a money market fund's holdings. Alternatively, MMFs would use a mark-to-market valuation like every other mutual fund, underscoring for investors that they are investment products and that any expectation of a guaranteed redemption value is unwarranted.

Schapiro’s inability to carry forward further regulations for MMFs has appeared to satisfy the MMF sector itself, that has argued that the SEC’s previous changes have already adequately protected the industry from future shocks.

The US Chamber of Commerce, for example, issued a statement on behalf of investors in MMFs that applauded the blocking action by the dissenting Commissioners – “to preserve this essential cash management tool utilized by organizations and individuals across the country - ranging from retailers and manufacturers to mayors and state treasurers.”

The Chamber agreed that “it is important to first examine the effectiveness of the current regulatory regime, including the changes implemented in 2010. … Fundamentally altering the structure and character of money MMFs would have destroyed the product and sharply reduced short-term financing for businesses and cities.”

However, Schapiro considered that the declaration by the three Commissioners now provides the needed clarity for other policymakers, such as the FCOS and the Federal Reserve as they consider ways to address the systemic risks posed by money MMFs. She urged them “to act with the same determination that the staff of the SEC has displayed over the past two years.”

Federal Reserve Chairman Ben Bernanke has weighed in, affirming that “additional steps to increase the resiliency of MMFs are important for the overall stability of our financial system and warrant serious consideration,” while the FSOC has also indicated that more MMF reforms were needed and must be found.

To substitute for the inability of the SEC to take action, the Federal Reserve could possibly, in the future, limit the exposure of banks to the MMFs that buy their short-term debt, or the FSOC could define individual MMFs as systemically important nonbank financial firms and subject them to the same level of oversight by the Federal Reserve as large banks.