JPM Writes on Reforms, Liquidity Fees
J.P. Morgan's latest "Mid-Week US Short Duration Update features a brief which asks, "Are liquidity fees swing pricing in disguise?" They explain, "It's been nearly a month since the SEC finalized the third round of MMF reforms. Arguably, the outcome was better than expected given the dreaded swing pricing component was removed from the final rule, fees/gates were delinked from weekly liquid asset thresholds, and the use of RDM was no longer banned.... But it was'nt all that great either, as MMFs will have to not only contend with higher daily and weekly liquidity asset requirements but also impose mandatory liquidity fees. Fees would be applied to redeeming shareholders when a fund experiences net redemptions greater than 5% of net assets." JPM writes, "In general, the likelihood of an institutional prime MMF seeing more than 5% in net redemptions is low. That said, flow behaviors differ meaningfully across large and small funds.... Investor concentration becomes a crucial issue. Moreover, calculating the liquidity fee is problematic. Extensive analysis would likely need to be done to determine spread costs, other transaction costs, and market impact costs, all of which feed into the liquidity fee calculation. Furthermore, the implementation of the liquidity fee is wonky." The piece comments "We believe fund managers and shareholders will manage their portfolios and cash, respectively, to minimize the likelihood of a liquidity fee being imposed, both in ordinary times and in stressed environments. In so doing, managing investor concentration becomes paramount. Shareholders might move to other cash alternatives to avoid potential liquidity fees altogether. Funds might be encouraged to hold more liquidity. Ultimately, we wouldn't be surprised if the reforms result in lower institutional prime fund AUMs. We think this rule favors larger institutional prime fund families, while smaller fund families and internal funds may determine that the operational costs and challenges to implement and ongoing costs to manage mandatory liquidity fees might not be worth it. Further industry consolidation seems likely. Conversion to institutional government MMFs also seems likely (it's the path of least resistance), though it's possible that the cash shifts into other liquidity credit products such as SMAs as well. Swing pricing or liquidity fee, the direction of travel for institutional prime funds appears to be the same."
