BlackRock, the 5th largest manager of U.S. money funds with $174 billion and the 2nd largest manager of "offshore" money funds with $80 billion, published a new "Viewpoint" recently that discusses the "shadow" NAV. Entitled, "The New Regulatory Regime for Money Market Funds: A Window into the Mark-to-Market NAV," it says, "Since the inception of money market funds several decades ago, a stable net asset value per share (NAV) has been a defining feature of this investment vehicle. Shareholders of money market funds managed in accordance with Rule 2a-7 under the Investment Company Act of 1940 subscribe and redeem shares at a net asset value of $1.00 per share. While money market funds seek to achieve a stable net asset value of $1.00 per share, there is no guarantee that it will be maintained."
The BlackRock paper explains, "In the wake of the market events of 2008, the U.S. Securities and Exchange Commission (SEC) approved changes to Rule 2a-7, added new disclosure requirements and took other actions in 2010 intended to strengthen the regulatory framework governing money market funds. Broad in scope, these changes imposed tighter restrictions on money market funds' portfolio maturity, credit quality and liquidity guidelines, expanded portfolio disclosure requirements and increased transparency to investors. A key element in increasing transparency was the requirement that money market funds file the mark-to-market -- or 'shadow' -- NAV of their portfolios with the SEC on a monthly rather than semi-annual basis. The SEC will make this information public on a time-lagged basis."
It states, "In this paper, we review some of the factors that influence the mark-to-market NAV and its characteristic daily fluctuations. Ultimately, we believe that the new regulatory regime will prove beneficial to investors by supplying them with more detailed information on fund managers' investment philosophies and approaches to risk management."
Under a section entitled, "What Makes the Mark-to-Market NAV Fluctuate?," BlackRock says, "A money market fund's mark-to-market NAV can fluctuate for a number of reasons. One major factor is monetary policy. Monetary policy is the process by which a central bank regulates the control of money and interest rates in an economy. Within the U.S., this is carried out by the Federal Reserve Board (FRB), which sets short-term interest rates (longer-term rates are set by the capital markets). Because money market funds hold short duration securities, the values of their portfolio securities are affected when the FRB moves short-term interest rates. When interest rates move up or down, the value of fixed-income securities held by money market funds moves as well -- typically in the opposite direction of interest rates. As a result, rising rates will tend to move security prices and the mark-to-market NAV downwards, while conversely, falling rates will cause security prices to rise. Because the instruments involved are comparatively short in duration, these movements in the mark-to-market NAV tend to be small."
The piece continues, "Market conditions and investor expectations also influence a fund's mark-to-market NAV. When market liquidity changes -- or borrowing becomes cheaper or more expensive -- the prices of securities held within a portfolio can fluctuate. Changes in market conditions can impact both the broader markets and individual securities and sectors in those markets. Such changes will also influence money market funds' daily mark-to-market NAVs. Investor subscriptions and redemptions also have an impact day to day. This is because funds buy and sell portfolio securities based on shareholder subscriptions and redemptions. If different funds are buying or selling at different points in the interest-rate cycle, this could contribute to differences in the mark-to-market NAVs between those funds."
BlackRock also says, "To show how different economic conditions can influence a money market fund's daily mark-to-market NAV, we compiled data from January 2002 to October 2010 for a representative BlackRock institutional fund to construct the chart [`see page 2 of full document].... The fund is a taxable 'Prime' money market fund that invests in a wide variety of money market instruments, including certificates of deposit, time deposits, commercial paper, and treasury and agency obligations."
They add, "In analyzing historical NAVs such as those plotted in the chart [see page 2 of full document for chart], it is important to note that even during the great credit crisis that began in mid-2007, the representative fund's mark-to-market NAV did not exceed 50% of the one-half of one cent threshold needed for the fund to break the buck. At its lowest point in September 2008, the mark-to-market NAV of the fund was $0.9975; however, for the great majority of the period covered by the chart, the representative fund's mark-to-market NAV remained comfortably within one-tenth of one cent above or below the stable NAV of $1.00."
The article tells us, "BlackRock has welcomed the SEC's changes to Rule 2a-7, including the new rules requiring more frequent disclosure of mark-to-market NAVs. We believe that transparency is critical for investor confidence and that an increased understanding of how money market funds have worked in practice should help reinforce investors' understanding of these products and the regulatory framework critical to maintaining the integrity of the product."
Finally, BlackRock adds, "We encourage investors to review published mark-to-market NAV data with the understanding that different money market funds' mark-to-market NAVs will naturally differ from each other. Each money market fund has different dynamics in terms of its portfolio composition and shareholder base. In the vast majority of cases the Rule 2a-7 structure has historically allowed money market funds to keep a stable $1.00 NAV in place despite these differences. Accordingly, we maintain our belief that money market funds continue to provide shareholders with an important source of short-term liquidity and investment diversification."
Note that BlackRock's Co-Heads of Cash & Securities Lending, Simon Mendelson and Rich Hoerner, will host a Webinar entitled, "Mark-to-Market NAV for Money Market Funds: What does it really mean?" on Tuesday, January 25, from 3:30-4:30pm. The description says, "Per the 2a-7 money market fund rule changes as directed by the SEC, the mark-to-market NAV will begin being reported (60 days in arrears) in early February. Some of the factors that influence the mark-to-market NAV and its characteristic daily fluctuations, as well as what shareholders should consider in assessing the market value will be reviewed in this in-depth webinar presented by senior members from Blackrock."
