The Investment Company Institute released its 2014 Annual Report earlier this week, which included a recap of a landmark year for money market funds as sweeping reforms were passed by the SEC. The most notable statistic from the report revealed that nearly 80% of U.S. MMF assets will retain a stable net asset value once reforms are implemented in October 2016. This is much higher than current categorizations of "Prime Institutional" due to the new definition of retail funds and marks a major win for the industry. We excerpt the money fund related comments and section below.
The 60-page report begins with a letter from ICI Chairman William MacNabb, the chairman and CEO of Vanguard. He comments, "In July, we saw the resolution of the six-year-long debate over how to make money market funds more resilient with adoption of new reforms by the Securities and Exchange Commission (SEC). The changes are sweeping and yet nuanced. Retail investors -- including those who invest through retirement plans and omnibus accounts -- will still have access to stable‑value prime, tax-exempt, and government money market funds. Institutions can choose to invest in stable-value government funds or floating value prime funds. The SEC rejected such harmful ideas as capital requirements or holdbacks on redemptions. In this balanced outcome, I can see clearly the impact of ICI's dedicated work. We can take pride in the rigor of ICI's research, the industry's creativity in proposing solutions, and our ability to rally our members and other constituents. These factors -- combined with the Institute's reputation for fact-based policy analysis and advocacy -- helped policymakers create a package of reforms that will largely preserve the benefits of money market funds for investors, issuers, and the economy."
ICI President and CEO Paul Schott Stevens reiterated MacNabb's remarks and looked forward. He writes, "The outcome of that debate has preserved money market funds as viable investment vehicles for individuals and institutions alike -- a result by no means clearly foreseeable during the long gestation of the new rules. ICI and its members will focus over the next two years on how best to implement these new SEC rules. At the same time, we will continue to work with regulators in the European Union to ensure that they learn from the U.S. debate -- by appropriately recognizing, for example, the differences among money market instruments, funds, and investors. As in the United States, the aim in the European Union should be to craft targeted regulations that address identifiable risks to financial stability while preserving the benefits that money market funds provide to investors, issuers, and the growth of the European economy."
The bulk of the MMF related commentary focused on reforms as an entire section of the report was devoted to it, called "Preserving Money Market Funds' Value to Investors and the Economy." It reads, "Almost six years after the worst week of the financial crisis, the Securities and Exchange Commission voted on July 23 to adopt sweeping changes to the rule that governs money market funds. The vote capped a long and intense period of study, analysis, and commentary involving a wide range of parties, both in the United States and abroad. Throughout this six-year debate, the Investment Company Institute played a leading role. ICI pursued two primary objectives: increasing the resiliency of money market funds in even the most extreme circumstances, while preserving the value of these funds for investors, issuers, and the economy. The new reforms build upon the significant changes to money market fund regulation adopted by the SEC in 2010 and tested during the European and U.S. debt crises of 2011. Notably, the SEC crafted its new rules to address those funds that showed the greatest susceptibility to heavy redemptions during times of market stress, such as that experienced in September 2008."
ICI recapped the adopted reforms, writing, "When the new rules are fully implemented in October 2016: Treasury and government money market funds will continue to offer a stable net asset value (NAV) for investors; Prime and tax-exempt money market funds offered to retail investors (defined in the rule as natural persons) also will have the ability to maintain a stable NAV; Institutional prime and tax-exempt money market funds will be required to price their shares to four decimal places ($1.0000 for a share offered at $1), making it likely that their NAVs will "float"; All money market funds -- like other funds -- will be allowed under most circumstances to use amortized cost to value securities with remaining maturities of 60 days or less; All nongovernment money market funds will be required to impose a 1 percent liquidity fee on redemptions if a fund's weekly liquid assets fall below 10 percent of total assets, unless the fund's board determines that such a fee would not be in the best interests of shareholders. All money market funds will be permitted to impose fees of up to 2 percent on redemptions if weekly liquid assets fall below 30 percent of total assets; and All money market funds will be allowed to suspend redemptions for up to 10 days under the liquidity circumstances that would trigger a redemption fee. The new rules also increase disclosure of liquidity, flows, and NAVs; tighten diversification requirements; and enhance stress testing for money market funds. In conjunction with the SEC rule, the Internal Revenue Service and Treasury Department issued significant guidance addressing the tax implications of floating NAVs."
A key finding details how stable value MMFs will remain largely preserved by the reforms. "The 2014 reforms will allow investors of all types continued access to stable NAV cash management funds, whether through the retail exemption, government funds, or non-registered funds for institutional investors. ICI research estimates that more than three‑quarters of U.S. money market fund assets are in funds that can continue to offer a stable NAV." ICI produced a chart that finds that "nearly 80% of U.S. money market fund assets are held in funds that will retain a stable net asset value." Specifically, citing year-end 2013 numbers, ICI breaks the money fund universe down like this using the new definition for retail: 36% prime retail; 35% government fund; and 8% tax-exempt retail. All three sectors will retain the stable NAV post-reforms. ICI then estimates 19% in prime institutional and 2% in tax-exempt institutional -- both of these sectors must adopt a floating NAV.
ICI's footnotes explain, "Money market funds held $2.7 trillion in assets at year-end 2013. Institutional accounts include financial and nonfinancial businesses, nonprofits, state and local governments, and other unclassified accounts. Accounts held by fiduciaries, retirement plans, and 529 plans are considered to be retail accounts." These projections for Prime Institutional MMF assets differ markedly from current classifications (Crane Data shows 32% of the money fund universe as "Prime Inst").
The report went on to look at other implications of the reforms. It says, "The SEC also rejected capital requirements, NAV buffers, and permanent "minimum balance at risk" holdbacks on redemptions, dismissing the latter as creating "a more complex instrument whose valuation may become more difficult for investors to understand." The new reforms also allow fund boards significant discretion in deciding whether and how to impose redemption gates and fees in extreme market circumstances. Fund managers can avoid such gates and fees entirely by carefully maintaining liquidity within their funds. The design of the new rules reflects a deliberate and constructive effort by the SEC to understand and address issues revealed by the financial crisis, without exaggerating risks or ignoring the value of money market funds to investors and issuers. That effort was aided by the research and insights provided by money market fund sponsors, investors and issuers in the money markets (including corporate and municipal treasurers), and ICI."
The study expounds on ICI's role in reform process, adding, "For the Institute, that work began immediately after the unprecedented events of September 2008, when ICI created the Money Market Working Group to "make recommendations to minimize risks and help assure the orderly functioning of this vitally important market." The Report of the Money Market Working Group and its recommendations -- adopted unanimously by ICI's Board of Governors in March 2009 -- became the foundation of the SEC's substantial reforms of January 2010. That report stands out as the most conspicuous example of an industry, in the aftermath of the financial crisis, spearheading reforms for the benefit of markets and investors. When bank regulators and the SEC's leadership at the time persisted in demanding further structural changes in money market funds after the 2010 reforms, ICI stepped up its research and advocacy."
They tell us, "In conjunction with the Institute's leadership and members, ICI engaged with policymakers at all levels, weighed every serious proposal, and marshaled research, legal, and operational expertise to inform the regulatory process. Any number of proposals -- including those ultimately rejected by the SEC in its final rule -- surfaced, usually with strong support among bank regulators. By contrast, those most familiar with money market funds and the markets in which they invest lined up solidly against such ideas. Those included fund sponsors, investors, and issuers -- and ultimately a majority of the SEC, the agency that has successfully regulated money market funds for the past 40 years."
ICI also discussed the road ahead. They state, "Though the SEC rule is now complete, ICI and its members must devote considerable effort and resources to its implementation over the next two years. Fund sponsors must reorganize their prime and tax-exempt funds to provide separate funds for retail and institutional investors. Sponsors and intermediaries must redesign systems to accommodate floating NAVs and redemption fees and gates. And investors may need to reconsider their approach to cash management in light of the changing money market fund landscape. The new U.S. rules also will be closely studied in Europe, where a pending proposal by the European Union would require all money market funds and similar products to adopt either a floating NAV or a 3 percent capital requirement. ICI Global has reached out to European policymakers to help them understand the balanced approach adopted by the SEC and to encourage greater flexibility, in hopes that the eventual EU rule will preserve a viable stable NAV money market fund product to benefit investors and the European economy. U.S. money market fund reform was a critical policy struggle for the Institute and its members."
"Over the course of almost six years, ICI did not flag or falter in pursuit of the twin goals we had identified from the outset -- strengthening money funds against the most adverse market conditions, while preserving their manifold benefits," ICI President and CEO Paul Schott Stevens wrote in a report to independent directors. "We can take great pride in the intellectual rigor and substance we brought to what was at times a fraught policy debate." Look for more coverage of the annual report, including a list of major events in money market fund history, next week and in the December issue of our Money Fund Intelligence newsletter.
