The Investment Company Institute and money fund giants Vanguard, Charles Schwab, Dreyfus, Federated Investors, BlackRock, Invesco, and Wells Fargo Advantage Funds were among 22 organizations posting comment letters to the SEC's "References to Credit Ratings in Certain Investment Company Act Rules and Forms (File No. S7-07-11)" proposal to remove ratings agencies from Rule 2a-7 of the Investment Company Act of 1940, the rules governing money market funds. (Comments were due by April 25. See the full proposed rule here.)
The ICI's letter says, "The Investment Company Institute appreciates the opportunity to offer its views on the Securities and Exchange Commission's proposal to remove references to credit ratings of nationally recognized statistical rating organizations (NRSROs) from certain rules and forms under the Investment Company Act of 1940. The proposed amendments give effect to provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) that call for the amendment of SEC regulations that contain any references to or requirements regarding credit ratings that require the use of an assessment of the credit-worthiness of a security or money market instrument."
It continues, "Although the Release states that the amendments 'are designed to offer protections comparable to those provided by the NRSRO ratings,' ICI is concerned that the proposed alternative standards of credit-worthiness in Investment Company Act Rules 2a-7 and 5b-3 may have the unintended consequence of raising some credit standards and lowering others. While the elimination of standards based on credit ratings must necessarily alter these regulations to some degree, we suggest below some different approaches that would keep these regulations more in line with their current standards. We also offer a recommendation that would permit funds to use NRSRO ratings to disclose credit quality information in shareholder reports in a manner that is consistent with their investment policies."
ICI General Counsel Karrie McMillan explains, "We recommend that Rule 2a-7 define an eligible security as 'a security with a remaining maturity of 397 days or less that the fund's board of directors determines presents minimal credit risks and the issuer of which the fund's board of directors determines has a strong capacity to meet its short-term obligations.' The proposed standard would eliminate the 'first tier' and 'second tier' categories from the rule and effectively limit money market fund purchases to those securities that meet one uniform, but very high, standard (e.g., securities generally comparable to securities rated in the highest short-term rating category, which would be first tier securities under the current rule)."
The letter adds, "We recommend that the requirement to reassess minimal credit risk under paragraph (c)(7)(i) be eliminated and that paragraph (c)(10)(i) be redrafted to include a general, ongoing obligation to monitor the credit risks of portfolio securities. An express requirement for funds to review their credit assessments under Rule 2a-7 on an ongoing basis would obviate the need for a separate requirement to identify specific triggers for reassessment. We do not believe that Section 939A of the Dodd-Frank Act precludes the SEC from promulgating regulations that simply refer to existing credit ratings without requiring an assessment of a security's credit-worthiness, such as in the stress testing paragraph of Rule 2a-7. Accordingly, we recommend that the SEC retain the stress testing provision in its current form."
Finally, ICI's letter says, "We recommend that at the time a fund enters into a repurchase agreement, the fund's board (or delegate) be required to determine that the issuer of any underlying nongovernment securities have an 'exceptionally strong capacity' to repay financial obligations, which would be consistent with the definitions used by many rating agencies to define their highest long-term rating category. We would not object to the additional proposed requirement that the underlying securities qualify as liquid securities.... Although the references to credit ratings in Form N-MFP are to existing credit ratings and are merely a collection of data points so regulators and investors will better understand funds' portfolios, we would not object to the removal of this information from Form N-MFP, provided that it is clear that funds may choose to include ratings from one or more NRSROs in the monthly website portfolio disclosure required by Rule 2a-7."
