We learned from JP Morgan Securities' latest "Short Term Market Outlook and Strategy" about a lobbying effort led by BlackRock to overturn the National Association of Insurance Commissioners' plans to remove its Class 1 classification for Prime money funds. (See our April 18 News, "NAIC Eliminates Class 1 Status for Prime Money Funds; American Update.") JPM writes, "A couple months ago the National Association of Insurance Commissioners (NAIC) Securities Valuation Office voted to amend the classification category of prime institutional MMFs on the balance sheets of insurance companies."
They explain, "[T]he office voted to amend the classification to equities, basically treating prime institutional MMFs like mutual funds, effective September 30, 2016.... While exposure is low (we estimate insurers held $33bn of Class 1 MMF holdings as of year-end 2015), the change has nonetheless brought about some concerns among those impacted in the industry. Fortunately, following a comment letter from BlackRock to NAIC last month, it appears that the staff at NAIC is reconsidering some of their classification changes based on a detailed agenda for a meeting on June 9 that we obtained online."
BlackRock's letter, with the Subject line, "Re: Amendment to the P&P Manual to Remove Class 1; Amendment to add New Money Market Mutual Fund Category," says, "BlackRock, Inc. is pleased to have the opportunity to comment to the Valuation of Securities Task Force on the removal of the Class 1 Money Market Fund List from the Purposes and Procedures Manual of the National Association of Insurance Commissioners Securities Valuation Office. BlackRock is proposing to add a new money market mutual fund category to the P&P Manual."
It explains, "Insurance companies currently use and rely upon prime MMFs to assist in the management of claims reserves, premium receipts and other working capital and treasury related functions on a daily basis. By eliminating the Class 1 List, we understand from our insurance clients that prime institutional MMFs will essentially be precluded from being used as a cash management tool by them. Companies using these MMFs for daily cash management needs would be subject to statutory equity limitations; we understand that many insurance companies are already allocating investments to their statutory equity limitations and will be unable to have the large cash balances they use daily in MMFs also count towards these limits."
BlackRock writes, "From a yield perspective, prime MMFs have historically provided more yield than government and treasury MMFs by a margin of 10bps. With several factors at play now in the short-term markets, we anticipate that this spread between government and treasury MMFs and prime MMFs funds could widen substantially, with industry estimates ranging between 30 and 50bps; today's spreads sit at over 20bps on average. In this low-yield environment which has plagued the industry for a number of years, every basis point matters within a cash investment portfolio. Additionally, while BlackRock has observed that prime MMFs are used by both large and small insurance companies, and across life companies, Property & Casualty companies and health companies, we believe small and mid-sized companies predominantly benefit from prime MMFs."
They continue, "With the removal of the Class 1 List from the P&P Manual, prime institutional MMFs will be treated in a starkly different manner by the NAIC than the SEC, the Financial Accounting Standards Board and the Internal Revenue Service. Each of these entities continues to treat prime institutional MMFs as cash equivalents.... With the removal of the Class 1 List which sits in Part Six, Section 2 of the P&P Manual, Prime Institutional MMFs would no longer meet the conditions set forth in Part 2, Section 9, e) of the P&P Manual and would not be eligible to receive bond treatment, or be treated as Cash or Cash Equivalents on Schedule DA. If a MMF is not treated as a bond, it would be classified as common stock."
BlackRock's letter adds, "In our view, the changes made by the SEC to the Rule will only strengthen the quality of the investments of prime institutional MMFs. We believe that the 2014 amendments to the Rule continue the efforts from the 2010 amendments and will help provide additional stability, greater transparency and more diversification to MMFs. Coupled with the increase in stress-testing requirements under the Rule, in our view, MMFs will be more robust than they ever have been."
It goes on, "As the Class 1 List is being eliminated, BlackRock proposes another category of MMFs be captured within the Accounting Practices & Procedures Manual, the P&P Manual, and the Quarterly and Annual Statement Instructions. Our recommendation would be for a prime institutional MMF to be classified as a Short-term Investment, receive treatment as a bond, and continue to be treated as a cash equivalent. BlackRock is proposing that the P&P Manual be amended to provide for a new classification of "Other Money Market Mutual Funds" to allow prime institutional MMFs to continue to be reported on Schedule DA as a short-term asset and receive treatment as a bond. Specifically, BlackRock would propose that the following parts of the P&P Manual be revised as follows." (The letter goes on to detail the specific changes to the ruling that BlackRock recommends, with changes highlighted in red.)
The NAIC responded to the letter at a June 9 meeting with the following comments: "Recommended Action: Staff agrees that clarification is necessary for the reporting of Money Market Mutual Funds (MMMFs). Staff has proposed revisions to SSAP No. 2 -- Cash, Drafts, and Short-Term Investments to clarify MMMFs as short-term investments and suggests a referral to the Blanks (E) Working Group to retain the existing reporting line number, but rename the current Class 1 reporting line on Schedule DA to "Other Money Market Mutual Funds.... Additionally, staff suggests a referral to the Valuation of Securities (E) Task Force to remove reporting references for MMMFs. The revisions proposed are detailed in the agenda item; however, the key changes are shown below."
Finally, it adds, "Staff has proposed retaining the MMMFs as short-term investments as that is consistent with the prior reporting of the Class 1 MMMFs. With this approach, the removal of the Class 1 distinction should have virtually no impact on the reporting of MMMFs.... If there is a desire to reconsider the "short-term" reporting of MMMFs and instead assess whether these items should be classified as "cash equivalents," it is recommended that the Working Group direct staff to work with interested parties in developing a separate agenda item for subsequent consideration."
