The Securities and Exchange Commission, which regulates money market mutual funds, is conducting an open meeting (which started at 10:00 a.m.) this morning where the "Commission proposed rule amendments "that would be intended to reduce undue reliance in the Commission's rules on NRSRO ratings." The Commission "will consider whether to propose rule and form amendments with respect to references in various Commission rules and forms to ratings by Nationally Recognized Statistical Rating Organizations (NRSROs)." To watch or listen, CLICK HERE.
SEC Director of the Division of Investment Management Buddy Donohue said the Commission will discuss the proposed changes thoroughly "because of the complexity and significance of 2a-7". He said that the new rules would offer "similar protections" and that the proposal to "require determination of minimal credit risks" utilize "credit quality assessments prepared by outside sources". He also introduced a requirement that money funds have "sufficient liquidity to meet redemptions" and will expressly define "illiquid securities,", which are already limited to 10% of a portfolio as those able to be "sold or disposed of within 7 days" at or near par. Revisions will also be made to downgrade and default provisions of 2a-7.
As we wrote yesterday (see below), the SEC issued a similar concept release in 2003. It said "Rule 2a-7 under the Investment Company Act of 1940 ... limits money market funds to investing in 'high quality' securities. The rule contains minimum quality standards based on an objective test -- ratings issued by NRSROs -- and on a subjective test -- the credit analysis performed by the adviser to the money market fund. The Commission could eliminate the objective test from Rule 2a-7, and rely solely on the subjective test."
Investment Company Institute counsel Amy Lancellotta said in a 2003 comment letter that ICI "would strongly object to the elimination of the objective test from Rule 2a-7." ICI said, "While possession of a certain rating by an NRSRO does not provide a 'safe harbor' for purposes of Rule 2a-7, the objective test plays a vital role in providing a regulatory benchmark for funds to meet in order to comply with Rule 2a-7. The objective test, for example, prevents money market funds from taking greater risks to increase yield and from 'stretching' the minimal credit risk definition to any number of investment opportunities that could be inappropriate for maintaining a stable net asset value. By increasing the safety of the securities held by money market funds, the objective test serves to enhance the confidence that investors have in money market funds. For these reasons, we recommend that the Commission continue to rely on the NRSRO designation for purposes of Rule 2a-7."
Another letter, written by former Fidelity Director of Taxable Money Market Research Steve Nelson, stated, "Fidelity opposes the removal of the NRSRO designation from Rule 2a-7. We believe that given current market conditions, allowing the industry to solely rely upon a subjective 'minimal credit risk' test for purchases within money market funds would not provide sufficient protection to investors. Such a change could lead to significant risk inequality across money market funds and undermine investor expectations as to the relative safety of their investments."
While many want to blame the ratings agencies and want regulators to do something, the NRSRO's performance in the money market space has actually been relatively decent. Only a handful of money fund eligible securities have actually defaulted, and the fact remains that no investor has lost a penny over the past year's liquidity crisis. Nonetheless, money funds look forward to a robust debate and discussion, and we look forward to hearing the Commission's proposals.
