As we mentioned yesterday, FSOC released its "2014 Annual Report", which reviews "significant financial market and regulatory developments" and "potential emerging threats to the financial stability," on Wednesday. Today, we continue our excerpts.... The report says in section 5.5.1 Money Market Funds, "MMFs are a type of mutual fund that invests in certain high quality short-term securities as defined by the SEC. Subject to compliance with the investment restrictions, MMFs are permitted to use the amortized cost method of valuation and/or the penny-rounding method of pricing to facilitate a stable NAV, commonly $1 per share, for subscriptions and redemptions. There are three main categories of MMFs: prime funds, which invest primarily in corporate debt securities; government and Treasury funds, which invest primarily in U.S. federal government securities; and tax-exempt funds, which invest primarily in short-term, tax-exempt securities of local and state governments. Prime MMF assets increased slightly in 2013 from $1.76 trillion to $1.79 trillion, while government and Treasury MMF assets increased from $949 billion to $981 billion (Chart 5.5.1). Tax-exempt MMFs declined from $299 billion to $281 billion. Taken together, MMFs held just over $3 trillion in assets as of December 2013, or about 18 percent of total mutual fund assets under management (AUM), according to the Investment Company Institute."
It continues, "The last two years have been a period of persistent consolidation in the MMF industry, with the number of MMFs dropping from 629 at the start of 2012 to 555 at the end of 2013. In the sustained low-interest rate environment, competitive measures have led fund managers to offer fee waivers to MMF investors to prevent negative net yield, which contributed to fund consolidation. During 2013, MMFs decreased liquidity levels and increased the weighted-average life of their fund portfolios (Charts 5.5.2, 5.5.3). In particular, the weighted-average life of non-traditional repo held in MMF portfolios lengthened from 17.7 days at the end of 2012 to 30.3 days at the end of 2013."
The report tells us, "While the ranking changed slightly from 2012 to 2013, prime MMFs continued to have the heaviest geographical exposures to the United States, Canada, Japan, France, and Australia/ New Zealand. Notably, MMF exposure to Chinese banks has increased steadily since exposures first appeared in portfolios in November 2011. However, at $5.9 billion at the end of 2013, it is still a very small percentage of prime MMF assets (0.3 percent)."
It adds, "Another notable change for MMFs in 2013 was the introduction of the Overnight Fixed-Rate Capped-Allotment Reverse Repurchase Agreement Operational Exercise, which the Federal Reserve has undertaken as part of its effort to test potential tools for future implementation of monetary policy. As a consequence of this exercise, investors in short-term funding markets, including MMFs, now have an additional, albeit potentially temporary, high-quality liquid investment option. As of December 31, 2013, prime MMFs held 44 percent of these repos, and all MMFs together held over 78 percent."
FSOC writes in section "6.2.3 Money Market Mutual Fund Reform," "In June 2013, the SEC proposed further reforms for the regulation of MMFs. The reforms were intended to make MMFs less susceptible to runs that could threaten financial stability and harm investors. The SEC's proposal includes two principal reforms that could be adopted alone or in combination. One alternative would require a floating NAV for prime institutional MMFs. The other alternative would allow the use of liquidity fees and redemption gates in times of stress. The proposal also includes additional diversification, disclosure, and stress testing measures that would apply under either alternative. The public comment period has closed, and the SEC is currently reviewing the comments and working to develop a final rule."
They add, "The SEC began evaluating the need for MMF reform after the Reserve Primary Fund "broke the buck" at the height of the financial crisis in September 2008. In 2010, the SEC adopted reforms enhancing the risk-limiting conditions on MMFs by reducing maturities, improving credit quality and imposing new liquidity requirements. The SEC's proposed rules would supplement the 2010 reforms. In November 2012, the Council issued for public comment a proposed recommendation that the SEC implement structural reforms to mitigate the vulnerability of MMFs to runs. The Council's proposed recommendation was issued under Section 120 of the Dodd-Frank Act. Under Section 120, if the Council determines that a financial activity or practice conducted by BHCs or nonbank financial companies could create or increase the risk of certain problems spreading among financial companies or markets, the Council may, after seeking public comment, issue recommendations to the relevant regulator to apply new or heightened standards or safeguards."
Finally, the report says on "Private Fund Data," "In July 2013, the SEC released a report on the use of data and records on private investment funds derived from the new Form PF. The SEC has received a complete set of initial filings from registered investment advisers on the form. As of mid-2013, private funds were reporting on more than $7 trillion in regulatory AUM with Form PF. The Council and OFR are using certain Form PF data to evaluate potential risks to financial stability. The OFR published preliminary results from analysis of Form PF data in its 2013 annual report, including analysis of leverage and VaR. SEC staff has begun to assess the quality of the data collected -- including evaluating the consistency of filer responses and differences in approaches or assumptions made by filers -- and has used the data to obtain information regarding certain private funds. The SEC also has identified a number of uses of the information, including incorporating Form PF data into SEC analytical tools, using Form PF information to monitor the risk-taking activities of investment advisers to private funds, conducting pre-examination due diligence and in risk identification, and providing certain aggregated Form PF data to IOSCO regarding large hedge funds to offer a more complete overview of the global hedge fund market."
