As Friday's deadline approaches for Comments on the Financial Stability Oversight Council's "Proposed Recommendations for Money Market Fund Reform", more letters of substance are appearing. One of the latest is from J.P. Morgan Asset Management, the second largest manager of money funds in the U.S. with $243 billion. President of the JPMorgan Mutual Funds Patricia Maleski writes, "J.P. Morgan Asset Management ("JPMAM") supports regulatory reforms that address structural vulnerabilities and decrease systemic risk in money market funds ("MMFs"). The reforms enacted by the Securities and Exchange Commission ("SEC") in 2010 were very effective in reducing risk taking, improving liquidity and disclosure, and they have been important to ensuring the stability of the short-term fixed income markets; however, concerns remain about the susceptibility of MMFs to run risk, as well as the implicit support investors believe is provided by fund sponsors. The Financial Stability Oversight Council ("FSOC") has requested feedback on a number of different proposals to address these risks, and JPMAM appreciates the opportunity to provide its perspective on these proposals, providing a constructive assessment of each. There also exists a series of other policy measures that regulators should consider, including standby liquidity fees and enhanced transparency to investors, which could further reduce risk and aid investors in understanding the true nature and risk of their investments"
She says, "To demonstrate our commitment to enhanced transparency, three MMFs advised by JPMAM began to disclose their market-based net asset value ("NAV") on January 14, 2013. More frequent availability of market-based valuations will allow investors to better understand the nature of MMF risks and make more informed decisions regarding their investments in MMFs." (Note: Crane Data will begin publishing the new daily "Market NAVs" for those funds that publish them on Friday in our Money Fund Intelligence Daily product.)
The JPMAM letter comments on the Floating NAV Option, "Stable NAV MMFs currently hold $2.70 trillion in U.S. investors' cash assets. There are a few important features of these funds including same day settlement and the $1.00 NAV which lead to simplicity in the accounting and tax treatment utilized by investors. As the SEC correctly stated, "The $1.00 stable net asset value per share ... facilitates the funds' role as a cash management vehicle, provides tax and administrative convenience to both MMFs and their shareholders, and promotes MMFs' role as a low risk investment option." Since the adoption of Rule 2a-7 in 1983, MMFs have proven successful at providing those benefits to investors."
It adds, "A requirement for MMFs to float NAVs would fundamentally reshape the product and its ability to deliver these core benefits to investors. Floating the NAV has the benefits of providing transparency of market values to investors and reducing the possibilities for transaction activity that results in non-equitable treatment across all shareholders; however, it will likely give rise to a number of consequences for investors and market participants that should be examined rigorously and addressed in order to arrive at a constructive solution."
The letter continues, "Investors have expressed strong concerns about the complexity from an accounting, tax and operational perspective associated with FNAV MMFs under the current regulatory framework. Recent market surveys of existing U.S. corporate treasurers found that between 77% and 79% of respondents would reduce or eliminate the use of MMFs if their per share NAVs were forced to float. In addition, accessibility would likely be materially diminished for those that remain active: automated investment sweeps are a dominant access point for MMF investing activity, with our own corporate treasury survey finding that 52% of investors utilize this kind of service to facilitate investments of their excess cash."
It says, "An implication of the various FNAV-related operational issues is that the number of intermediaries capable of making sweeps to MMFs available to their underlying investors should be expected to shrink materially, particularly in the near-term, as the industry adjusts and market participants gauge outflow and reallocation activities by investors. The market feedback to date implies that this sort of structural change may result in a substantial reduction in assets, investors and intermediaries participating in the MMF segment; however, some of the market feedback may be due in part to the level of uncertainty and collateral effects that are triggered by a change of this scale. Although it is difficult to quantify, some proportion of these investors may be encouraged to remain active participants in the prime funds if the industry and regulators establish a comprehensive set of proposals and policies."
JPMAM writes on the Minimum Balance at Risk, "While a minimum account balance at risk and other forms of holdbacks may slow the rate at which a run progresses once it has occurred, it may introduce other complications, the net effect of which is likely to threaten the viability of the product by a) significantly reducing the demand for MMFs, and b) potentially accelerating the risk of runs. In line with the investor feedback received related to the FNAV proposal, recent surveys show that between 80% and 90% of current MMF users would reduce or eliminate their investments in MMFs if a portion of their cash position was held back for a predefined period of time. Based on our own investor discussions, it is also likely that such a structure would encourage a heightened level of restlessness across the investor base and thereby enhance the likelihood of a run."
They say about Capital," "In our experience, liquidity concerns are fueled by credit events. In the past, sponsor capital used at the discretion of sponsors, has generally been effective in preventing idiosyncratic credit risk in a single fund leading to a broader systemic issue across the industry and short term funding markets. Isolating the fund (or funds) exposed to a credit event in order to curtail a more systemic issue across the short end funding markets may now be accomplished more easily following the 2010 SEC money market reforms, which conferred authority to a fund board to put a fund into orderly liquidation. There are a number of ways that capital could be funded, i.e., by sponsors, shareholders or third parties, and a number of ways it could be structured, i.e., first loss reserve used only upon liquidation or a buffer that absorbs day-to-day fluctuations in market-based values. While there are some distinct benefits to capital, there are also challenges that should be addressed."
The letter also comment on Other Measures," "As the industry and regulators continue to work towards a constructive solution, JPMAM believes the theme of transparency should play a central role. Recognizing this, the prime MMFs advised by JPMAM began disclosing their market-based NAVs each business day. Specifically, effective January 14, 2013, the funds began disclosing market-based NAVs the next business day. All redemptions and subscriptions for the funds will continue to be processed using the stable NAV determined under the amortized cost method of accounting consistent with the provisions under Rule 2a-7."
It adds, "Requirements that enable managers to have a better understanding of the type of investors in MMFs will allow managers to better manage for risks that may arise from high shareholder concentration and to better monitor subscription and redemption cycles. These would be positive steps for the industry's ability to manage potential MMF risks. Steps to encourage distributors/agents to provide better information to MMF managers on the underlying investor bases in omnibus accounts, in terms of concentrations, investor types and trading patterns, would be protective for existing MMF investors and therefore positive for the industry."
Finally, they comment, "Enhancements to the credit related portfolio constraints under Rule 2a-7 could act to further minimize the potential of a defaulted security having a material impact on the overall value of these portfolios. Building on these reforms by applying exposure limits based on long-term issuer ratings and tenors could be an effective measure for reducing the impact credit events have on perception on a MMF portfolio.... While the reforms of 2010, and specifically the liquidity requirements, have proven highly effective, consideration should be given to additional liquidity requirements. A 50% monthly liquidity requirement could complement the existing daily and weekly requirements and provide additional safeguards to MMFs.... There have been numerous proposals submitted regarding standby liquidity fees ("SLFs") and "gates". These proposals have considerable merit and should be given serious consideration; however, it is important to recognize the benefits and limitations of SLFs and gates."
