Among the latest batches of Comments on the FSOC's "Proposed Recommendations Regarding Money Market Mutual Fund Reform", is a trio of Comments from Arnold & Porter LLP on behalf of Federated Investors, Inc. written by John D. Hawke, Jr.. The comments include a letter on each of the three FSOC Proposed Options -- "Alternative One: Floating Net Asset Value," "Alternative Two: Minimum Balance at Risk," and "Alternative Three: NAV Buffer with Other Measures." Hawkes says in the first letter, "Dear Secretary Geithner: We are writing on behalf of our client, Federated Investors, Inc., and its subsidiaries ("Federated"), to provide comments in response to the Financial Stability Oversight Council's (the "Council's") recently issued Proposed Recommendations Regarding Money Market Mutual Fund Reform ("Proposed Recommendations" or "Release"); specifically, "Alternative One: Floating Net Asset Value." The Release would require money market mutual funds ("MMFs") to have a floating net asset value ("NAV") per share, and would also require MMFs to initially re-price their shares to $100.00 each. In conjunction with this alternative, the Release also proposes to rescind Securities and Exchange Commission (SEC) Rules 22e-3 and 17a-9, which were adopted as part of the SEC's 2010 reforms responding to the financial crisis."
He continues, "As discussed in greater detail in our letter of December 17, 2012, we believe the Council has arbitrarily and improperly invoked its Dodd-Frank Section 120 authority, in an attempt to pressure the SEC to move forward on proposals that a majority of its commissioners found unsupported by data or economic analysis and potentially risky to the financial system. The Council ignored the overwhelming public comments in the SEC docket raising substantial concerns about the very proposals the Council put forward in its Release. We do not believe Congress intended the Section 120 process to be used arbitrarily and in disregard of agency processes, in circumstances where an agency is continuing to grapple with a regulatory issue under its direct jurisdiction, simply because, in this case, the agency's former chair could not muster the votes for proposals that clearly would be ineffective in achieving their primary purpose, would introduce more risk to the system, and would impose significant costs to issuers and investors."
Hawkes explains, "We, nonetheless, appreciate the opportunity to provide comments and, again, call to the Council's attention the significant flaws in the proposed reforms, which should have been abundantly clear from the comment letters, reports and surveys complied in the SEC's docket and available to the Council before it issued its Release. As discussed in the enclosed paper, the Council should not recommend that the SEC adopt the proposal described in Alternative One, for the following reasons: (1) A floating NAV would do nothing to advance the regulatory goal of reducing or eliminating "runs." There is no data to support this proposition and, indeed, the data show just the opposite. (2) The floating NAV proposal is based on an unproven notion of "first-mover advantage," the theoretical risk of which is more appropriately addressed through the operation of existing SEC rules and MMF board authority. (3) A stable NAV does not create an arbitrage opportunity for MMF shareholders. (4) The elimination of the stable NAV is wholly unnecessary to address the perceptions of investors, who know and understand that MMFs are investments that are "not FDIC insured" and "may lose value." (5) A floating NAV would not reflect a measurably more "accurate" valuation of MMF shares than the amortized cost accounting method currently used by MMFs."
The letter continues, "(6) A floating NAV, with a mandated $100.00 initial share price, would not be "consistent with the requirements that apply to all other mutual funds" but rather would be arbitrary and punitive, and would destroy MMFs as a product. (7) A floating NAV, for the sake of showing minute variations in value that cancel out over time, would eliminate MMFs as a viable cash management tool by destroying their principal liquidity function. (8) A floating NAV, for the sake of showing minute variations in value that cancel out over time, also would impose significant operational, accounting and tax burdens on users of MMFs and destroy their utility. (9) A floating NAV would altogether prevent certain investors who are subject to statutory prohibitions and investment restrictions from using MMFs. (10) A floating NAV, because of the operational burdens, costs, and other impediments, would substantially shrink the assets of MMFs."
Hawkes first letter adds, "(11) A floating NAV would therefore contract the market for, and raise the cost of, short-term public and private debt financing while potentially destabilizing those markets. (12) A floating NAV would force current MMF users to less regulated and less transparent products. (13) A floating NAV would accelerate the flow of assets to "Too Big to Fail" banks, further concentrating risk in that sector. (14) The Council's proposal to rescind Rules 22e-3 and 17a-9 would remove important 2010 reforms designed to protect investors. (15) Instead of focusing on the floating NAV, regulators should consider how MMF's enhanced liquidity has proved to be effective in absorbing heavy redemption requests, and how it has improved the characteristics of the marketplace from 2008. We urge all members of the Council to review the comments submitted in response to its Release and to give careful thought to the issues discussed in the attached paper as well as those raised by other commenters. We further urge the Council to withdraw its Release."
Federated's second letter on "Alternative Two: NAV Buffer and Minimum Balance at Risk" comments, "The proposal in Alternative Two would require money market mutual funds ("MMFs") to hold capital to serve as an "NAV buffer" of up to 1 percent based on the nature of the fund's assets, paired with an MBR requirement. The MBR would require that 3 percent of a shareholder's highest account value in excess of $100,000 over the previous 30 days be held back (not available for redemption) for a period of 30 days.... [W]e believe the Council has arbitrarily and improperly invoked its Dodd-Frank Section 120 authority, in an attempt to pressure the SEC to move forward on proposals that a majority of its commissioners found unsupported by data or economic analysis and potentially risky to the financial system. The Council ignored the overwhelming public comments in the SEC docket raising substantial concerns about the very proposals the Council put forward in its Release."
It comments, "As discussed in the enclosed paper, the Council should not recommend that the SEC adopt the proposal described in Alternative Two, for the following reasons: (1) Imposing an MBR requirement on MMFs would do nothing to advance the stated regulatory goal of eliminating or decreasing the risk of "runs." (2) The MBR requirement would be counter-productive and increase systemic risk under some circumstances by triggering preemptive runs. (3) The MBR and subordination requirement is unfair and confusing to investors. (4) The MBR/capital buffer proposal is based on an unproven notion of "first mover advantage," the theoretical risk of which is more appropriately addressed through the operation of existing SEC rules and MMF board authority. (5) The requirement for an MBR and capital buffer, if it acts as its proponents suggest, would undermine, not promote, market discipline. (6) Implementation of the MBR would impose significant operational and cost burdens on a range of users of MMFs and intermediaries, as well as MMF sponsors, and would destroy MMFs' utility."
Hawkes adds, "(7) Because of these cost and operational challenges and uncertainties, investors would be unwilling to invest in MMFs with MBR and subordination features, and assets of MMFs would shrink dramatically. (8) Implementation of the MBR would prevent certain investors who are subject to statutory prohibitions and investment restrictions from using MMFs. (9) If an MBR requirement is imposed, MMF assets would migrate to less regulated and less transparent products and to "Too Big to Fail" banks, harming the economy and increasing systemic risk. We urge all members of the Council to review the comments submitted in response to its Release and to give careful thought to the issues discussed in the attached paper as well as those raised by other commenters. We further urge the Council to withdraw its Release." (Click here for the third letter.)
