The Securities and Exchange Commission passed significant amendments to the rules that govern money market mutual funds by a 3-2 vote during Wednesday’s open meeting.
Under the new rules, a floating net asset value (NAV) will be required for institutional prime money market funds, which allows the daily share prices of these funds to fluctuate along with changes in the market-based value of fund assets. Nongovernment money market fund boards will also be provided with new tools — liquidity fees and redemption gates — to address runs.
It’s a “strong reform package that significantly mitigates the risks of a run in money market funds and that will limit further contagion should a run occur,” SEC Chairwoman Mary Jo White said.
While concerns had been raised about the accounting and federal income tax implications of requiring a floating NAV, the SEC was informed that the U.S. Department of the Treasury and the Internal Revenue Service would release two types of tax guidance today.
According to an SEC fact sheet, those agencies will propose new regulations “to allow floating NAV money market fund investors to use a simplified tax accounting method to track gains and losses.” That will eliminate the need to track individual purchase and sale transactions for tax reporting purposes,” the fact sheet says. Finally, Treasury and the IRS will also release a new revenue procedure “that provides relief from the ‘wash sale’ rules for any losses on shares” of a floating NAV money market fund.
The goal of a floating NAV is to reduce the first-mover advantage inherent in a stable NAV fund, reduce the chance of unfair investor dilution and make the risk of loss more transparent to the impacted investors.
With this new rule, institutional prime money market funds (including institutional municipal money market funds) will no longer be allowed to use the special pricing and valuation conventions that currently permit them to maintain a constant share price of $1. Instead, they will be required to value their portfolio securities using market-based factors and sell and redeem shares based on a floating NAV.
“Institutional prime money market funds experienced the precipitous run during the financial crisis, and our analysis has shown that they continue to be the most susceptible to runs,” said White before the vote. “Retail and government money market funds have not to date faced significant runs even in the worst of times; in fact, investors ran to government money market funds in 2008 and the value of their portfolios appreciated. At the same time, retail investors in particular have come to rely on the liquidity and stability of money market funds, and they lack investment substitutes with similar characteristics, including those that may be available to institutional investors.”
Money market fund boards will now have the ability to impose liquidity fees and redemption gates during periods of stress.
Under the new rules, if a money market fund’s level of weekly liquid assets falls below 30% of its total assets (the regulatory minimum), the money market fund’s board would be allowed to impose a liquidity fee of up to 2% on all redemptions. If a money market fund’s level of weekly liquid assets falls below 10%, the money market fund would be required to impose a liquidity fee of 1% on all redemptions. To impose a “gate” under the new rules, a money market fund’s board could in its discretion temporarily suspend redemptions if the money fund’s level of weekly liquid assets falls below 30%. A money market fund that imposes a gate would be required to lift that gate within 10 business days, although the board of directors could determine to lift the gate earlier. Money market funds would not be able to impose a gate for more than 10 business days in any 90-day period.
Any fee or gate would first need to be determined by the fund’s board that it is in the best interests of the fund to be implemented.
Also included in the reform package were amendments to Form PF that would better monitor whether substantial assets migrate to private liquidity funds. The new rules will require a liquidity fund advisor managing at least $1 billion in combined money market fund and liquidity fund assets to report to the SEC basically the same portfolio information on Form PF as registered money market funds are required to report on Form N-MFP, according to the SEC fact sheet.
Commissioner Luis Aguilar addressed these changes before the vote. “While Form PF does not cover all unregulated funds or vehicles, the additional information will provide important information and transparency to the Commission,” Aguilar wrote. “I expect the Commission staff to closely monitor these developments and to recommend to the Commission and, if necessary, to Congress, any possible amendments or legislative reforms needed to address the operations of these dark, less regulated markets.
The SEC will give companies up to two years to comply with the new rules, which also included enhanced diversification, disclosure and stress testing requirements, as well as updated reporting by money market funds and private funds that operate like money market funds.
SEC commissioners Kara Stein, a Democrat, and Michael Piwowar, a Republican, voted against the changes. White, Aguilar and Daniel Gallagher voted in favor of the rule chanes.
Before the vote, Stein expressed her concerns that imposing a gate on redemptions could increase the risk of investor stampedes. Meanwhile, Piwowar worried that money funds would lose appeal among investors and questioned whether a floating NAV was the best approach.
And the vote wasn’t all that favorible outside the commission, as Peter Schiff, CEO and Chief Global Strategist for Euro Pacific Capital, said in a statement.
“The SEC’s new rules that permit the agency to restrict money market fund redemptions (during periods that it determines are “times of stress”) greatly undermines the rationale of holding such funds. Euro Pacific Capital would suggest that our 18,000 retail clients consider these changes to determine the best course of action for their investments. We believe that the paltry yields offered by money markets may no longer adequately compensate investors for the illiquidity that would result from an arbitrarily imposed barrier to exit. We see the policy as a clumsy attempt by government to contain the damage that could result from the bursting of the asset bubbles that it has so forcefully created.”
Separately, the SEC voted unanimously to re-propose a plan to address provisions that reference credit ratings. The commission also voted unanimously on a proposal for exemptions from certain confirmation requirements for transactions effected in shares of floating NAV money market funds.
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