Another comment letter has appeared on the SEC's Money Market Fund Reform Proposal. The latest, from A Hester Peirce, Senior Research Fellow, and Robert Greene, Project Coordinator, The Mercatus Center at George Mason University, Arlington, Virginia, includes a paper, "Opening the Gate to Money Market Fund Reform," which supports the `emergency "gates" and fees alternative. It says, "On September 17, 2013, we submitted a public interest comment on the Security and Exchange Commission's (SEC) proposed rulemaking "Money Market Fund Reform; Amendments to Form PF." We argued that allowing a MMF's board of directors to discretionarily gate the MMF when the board deems that doing so is in the best interest of the fund more adequately meets the SEC's objectives than either of its two June 2013 proposed reforms. The attached working paper examines the rationale for, mechanics, benefits, and drawbacks of our discretionary gating proposal in more detail. We urge the SEC to review the paper's findings before finalizing its rulemaking for further MMF regulatory reform. Thank you for reviewing our proposal as the SEC considers this important next step in MMF regulatory reform."
Peirce and Greene's Abstract says, "For decades, money market funds (MMFs) were thought to be safe, low-risk investments. The financial crisis of 2007–2009 cast MMFs in a new, less favorable light, which prompted calls for reform. Our paper offers a reform alternative that builds on MMF boards of directors and their well-established responsibility for making key decisions for MMFs. After a brief overview of the regulatory history of MMFs, we describe the responsibilities that boards have under current law, the problems MMFs encountered during the crisis, and market and government responses to these problems. Evidence shows that during the crisis, investors were discerning in deciding whether and when to run; more risky, less liquid funds experienced higher volumes of redemptions. This finding, along with our assessment of funds' boards of directors' responsibilities, helps to lay the groundwork for considering the various options for addressing problems still facing MMFs, including our proposal to allow boards to gate their funds when faced by potentially destabilizing redemption pressures."
It explains, "Over the last several years, the roughly $2.7 trillion money market fund (MMF) industry has found itself the uncomfortable object of attention from regulators and academics. One of these funds -- the Reserve Primary Fund -- notoriously could not pay investors during the crisis, a virtually unprecedented event in the stable world of money market funds. A run on certain MMFs ensued, and the government set up a number of programs to prop up MMFs and the entities that rely on them for funding. Although the focus on MMFs and the potential instability brought to light by the last crisis is warranted, the nature of the reforms being considered is not."
The paper tell us, "In this article, we propose an alternative reform that centers on having MMF boards of directors, rather than regulators, make critical decisions on behalf of the fund during times of crisis. Specifically, we propose that an MMF board of directors be permitted to gate redemptions at the board's sole discretion for any length of time without any conditions other than an affirmative board vote -- including a vote of the majority of the fund's disinterested directors -- that suspending redemptions is in the best interests of the fund and is necessary to protect the fund's stable net asset value (NAV) and to ensure the equitable treatment of fund shareholders. This proposal is a natural extension of the existing responsibilities of MMF boards of directors."
It explains, "An MMF is a mutual fund -- a collectively owned pool of assets -- that typically invests in low-risk securities, such as high-grade commercial paper, government securities, and certificates of deposit. The Securities and Exchange Commission (SEC) regulates MMFs under the Investment Company Act of 1940 ("Investment Company Act" or "Act"). MMF shares generally are bought and sold at $1.00 per share. This feature, together with the ease with which shares can be bought and sold, allows MMFs to serve as the functional equivalent of a bank account in the eyes of many investors. MMFs are an important cash management tool for corporate treasurers and a vital source of short-term funding for banks, municipalities, and corporations. MMFs cater to both institutional and retail investors and come in several different forms: government MMFs, which invest in Treasury securities and agency securities; prime MMFs, which invest in government securities and in other short-term securities such as commercial paper; and tax-exempt MMFs, which invest in municipal securities."
The George Mason pair continue, "The SEC adopted reforms to the regulation of MMFs in 2010 that the agency viewed as a first step toward revamping MMF regulation in response to the crisis. The reforms being considered for the second step have been the subject of heated debate by industry, regulators, MMF investors, and academics. Many of the suggested reforms are unworkable or threaten the core of the industry. This paper argues for a more measured reform that offers the promise of addressing the issues that MMFs encountered during 2008 without eliminating a useful investment and funding mechanism."
They state, "Our proposal relies on MMF boards to freeze redemptions whenever and for as long they determine is in the best interests of the fund. This approach would entrust boards with a responsibility that is consistent with other responsibilities they exercise, would serve as a stark reminder to investors that MMFs are not equivalent to bank accounts, and would give MMF advisers, boards, and investors an incentive to limit MMF risk-taking in order to safeguard ready redeemability."
The paper says, "This article proceeds as follows. Part I outlines briefly the background of MMFs. Part II discusses the role of the board of directors in governing MMFs, a role upon which our proposal would build. Part III discusses MMF-related events during the financial crisis of 2007–2009 and describes the government's response to these events. Part IV describes the reforms the SEC instituted in 2010. Part V outlines options for further reform. Part VI outlines and discusses benefits and drawbacks of our proposed solution -- unrestricted discretionary gating by fund boards. Part VII concludes."
The comment concludes, "The events of 2008 demonstrated weaknesses in the MMF model and the unwillingness of the government to let the market exert its discipline. Accordingly, it is time to take another look at how MMFs can be made stronger. Unfortunately, many of the suggested regulatory reforms for MMFs are operationally unfeasible and could unnecessarily deprive corporations, individuals, and institutional investors of a useful cash management tool. Worse, some proposals could exacerbate the chance or severity of another run on MMFs."
Finally, it adds, "On the other hand, our proposal to allow MMF boards to discretionarily gate their funds would reduce the likelihood and the severity of runs while maintaining most of the desirable features of MMFs. By placing this key strategic decision in the hands of the board of directors, it builds naturally on the already extensive protective responsibilities Congress and the SEC have entrusted to fund boards. Discretionary gating could encourage prudent risk management by MMFs and careful investment decisions by shareholders. The liquidity risk associated with gating will cause investors and managers alike to think twice about yield chasing. Gating will enable funds to avoid asset fire sales in times of crisis, which can harm funds. Our proposal equips fund boards with a powerful tool to ensure the equitable treatment of shareholders. It relies on the existing fiduciary responsibility of boards and on the unique insights of board members about how best to maintain the stability of individual funds. In doing so, our proposal offers a viable solution to make MMFs more resilient without undermining the useful role they play in the financial system."
