As we mentioned in our "Link of the Day" yesterday, several additional comments have been posted recently on the SEC's Proposed Rules page, including one from John McGonigle, Deborah A. Cunningham and Steve Keen on behalf of Federated Investors. Below, we excerpt from their "Proposed Money Fund Reforms" Powerpoint, which offers bullet points on the benefits of money market funds, the drawbacks of fluctuating funds, and the importance of allowing a temporary suspension of redemptions when a fund has 'broken the buck'.
The Comment says, "Money market funds have provided great benefits: Since the adoption of Rule 2a-7, an estimated $325 trillion has flowed through money market funds. Over the past 24 years, investors have increased their returns by over $450 billion by investing in money funds rather than interest-bearing bank deposit accounts. An investment of $1,000 in the average money fund at the beginning of 1999 would have out yielded the average bank account by over $200 by the end of 2008." Its example adds, "Even if the fund broke a dollar and paid only 98 cents a share, the investor would still be ahead by over $180."
The presentation says that, "Fluctuating funds cannot match the popularity of stable funds." It states, "Over the past thirty years, many advisers (including Federated) have tried to develop a fluctuating alternative to money market funds. From the investor's perspective, a 'fluctuating' money market fund is an oxymoron. Investors do not consider fluctuating funds a substitute for a stable fund. Investors view investments in even low volatility funds as a allocation out of cash. Ultrashort Funds are a good example: No matter what the yield environment, [they] never reached even $100 billion in total assets." Plus, their "cash flows are more closely linked to interest rate cycle than money funds."
It asks, "Even if 'fluctuating' money market funds were ten times more successful than ultrashort funds, they would hold less than a third of current money fund assets. Where would the other $2 trillion go? What would be the impact on the CP market, where money funds consistently represent 30% to 40% of the market? The repo market, where Federated alone provides over $100 billion of financing every day? The municipal market, where money funds represent 65% of the short-term note market? And the banks, with suddenly expanded deposit bases?"
The presentation urges that "Reforms should focus on mitigating [the] imact of breaking the dollar." It says, "While the industry will strive to avoid the event, other funds will break a dollar in the future. Objectives when a fund breaks a dollar [should be to]: minimize ultimate loss to shareholders; provide immediate access to a portion of their account balance; complete liquidation of fund (other than defaulted securities) within a matter of months; treat shareholders equitably and keep them informed. If large scale redemptions occur in other funds, [they should] create a source of back-up liquidity. Meeting these objectives should reduce risk of future panics."
Federated's slides continue, "Liquidity requirements are the most important proposed Rule 2a-7 reform. Federated fully supports general requirement to maintain sufficient liquidity for anticipated redemptions." They write that the "Ability to suspend redemptions is the most important proposed new rule," "Boards of troubled money market funds currently have three choices: Continue to price redemptions at $1 while the adviser looks for a solution; break a dollar; or, suspend redemptions without an order from the SEC, in violation of ICA 22(e)."
The Powerpoint also comments that the "Putnam/Federated transaction illustrates virtue of temporary suspension." It says, "Following Reserve Primary Fund's breaking a dollar, Putnam Prime Money Market Fund suffered net redemptions of $9.7 billion." The "Fund did not hold any defaulted or distressed securities [and] paid out $5.2 billion (30% of the fund) before suspending redemptions." The "Putnam Board chose [the] third option and suspended redemptions without an order to allow adviser to find a better solution than breaking a dollar."
Finally, it adds, "Federated agreed to allow [the] Putnam fund to merge with a large Federated institutional fund, which had more than enough liquidity to meet all outstanding redemption orders for both funds. The merger was completed within a week of suspending redemptions, and full liquidity was restored to shareholders without any losses. Similar transactions might have been possible for many of the Reserve Funds, if the Board had not continued to honor redemptions after Lehman filed for bankruptcy."
