We wrote Monday about ICI President & CEO Paul Schott Stevens speech at the Investment Company Institute's Mutual Funds and Investment Management Conference in Phoenix entitled, "Weathering the Worst: Making Money Market Funds Even Stronger." (See Crane Data News "ICI's Stevens Defends $1 NAV, Reveals Liquidity Facility Blueprint".) Today, we excerpt from a couple more important sections that we couldn't fit into Monday's article, including comments on money funds' importance in financing the U.S. economy and on why floating rate money funds "are not immune to redemption pressures."
Stevens said Monday, "Before the start of the financial crisis, few of us would have expected money market funds to become the focus of so much attention. During their history of 30-plus years, these funds have been a steady, predictable mainstay of finance. For retail investors, money market funds have long provided the only means to obtain access to higher-yielding money market instruments. For institutions of many kinds, these funds are a preferred vehicle for cash management."
He explained, "Their popularity with investors also has given money market funds an important role in financing the American economy. Over time, money market funds have become an important and irreplaceable pipeline in the flow of short-term capital. Consider what the $3.1 trillion invested in money market funds means to our economy. Money market funds are about jobs. They hold almost half of the commercial paper that businesses issue to finance payrolls and inventories. Money market funds are about communities. They hold nearly two-thirds of the short-term debt that finances state and local governments. Money market funds are about ordinary Americans. Credit-card, home-equity and auto loans are substantially financed by asset-backed commercial paper held by money market funds. Money market funds even play a vital role in financing the U.S. government. One dollar out of every six in short-term paper issued by the Treasury ends up in a money market fund."
Stevens told the Phoenix audience, "In all of these contexts, the ready availability of capital through money market funds lowers the cost of financing. It helps create and maintain jobs, promotes capital investment, helps state and local governments fund their operations, and keeps the wheels of commerce turning."
On floating rate funds and their susceptibility to runs, Stevens explained, "[H]ard experience shows that mutual funds that float their NAV are not immune to redemption pressure. That's clear from the record of floating-value ultra-short bond funds -- they lost half of their assets in the course of 2008. Similarly, French floating-value money market funds, known as tresorerie dynamique funds, lost about 40 percent of their assets in a three-month time span from July 2007 to September 2007. Clearly, the experience of these other funds demonstrates that a fluctuating per-share value would not eliminate the possibility of wholesale redemptions from money market funds during a future crisis."
He continued, "Second, the proponents of floating value ignore the severe dislocations that it might cause for investors and issuers -- and, by extension, American businesses and workers. Investors, both retail and institutional, clearly see the advantages of stable-value funds. They've demonstrated that by voting with their dollars. At the end of 2009, there was $2.9 trillion invested in taxable money market funds. By contrast, short-term bond funds held just $184 billion -- despite their higher yields. Money market funds' 15-to-1 advantage in total assets -- at a time when yields on money market funds are razor-thin -- speaks volumes about the needs and preferences of investors."
"A retail investor expects that $1.00 put into a money market fund will count for $1.00 when writing a check or making a withdrawal. If money market funds lose their stable value, retail investors who want a stable-value cash investment will have no alternative but to use bank accounts -- by no means an ideal substitute. Institutional investors already have many alternatives. But they stick with money market funds in large part because a floating-value fund would mean constant accounting and tax headaches. In such funds, investors must track realized or unrealized capital gains and losses in their position and conduct detailed recordkeeping when there are changes in the value of their money market fund investments," he added.
Stevens said, "So if regulators forced money market funds to abandon their stable $1.00 value, institutional investors would leave.... Indeed, many institutions are required by law or by investment policy to keep cash in stable-value accounts. And where would they go? Banks might seem to be the obvious winners. But banks don't want large institutional deposits. In fact, banks now 'sweep' institutional deposits off of their books and into money market funds and other short-term instruments, so that the banks can avoid carrying large demand balances. Wiping out stable-value money market funds won't make banks any more eager to assume those liabilities."
He explained, "Instead, institutions that want or require stable value would probably turn to the true 'shadow banking system' -- private pools, here and overseas, that promise to maintain a fixed price. These alternatives would neither be registered with the SEC nor subject to regulation under the Investment Company Act 1940, including Rule 2a-7. They would not assure investors the same protections that money market funds do with respect to credit quality, maturity, liquidity, and other aspects of portfolio management. Investors will be more likely -- not less -- to withdraw their assets from such funds in a future crisis."
Finally, Stevens said, "Given this analysis, it came as no surprise to us that investors, the businesses and municipalities that depend on these funds, and consumer advocates all have spoken out against floating the value of money market funds. Out of more than 120 comment letters filed with the SEC, the ones that favored floating values could be counted on the fingers of one hand. By contrast, scores of letters opposed this idea, from writers as disparate as the American Public Power Association, the city of Brookfield, Wisconsin, the National Association of State Treasurers, AARP, and the Consumer Federation of America -- not to mention individual investors strongly opposed to changing the fundamental nature of this product."
