Law firm Dechert released, "U.S. Money Market Fund Reform: Diversification, Stress Testing and Disclosure Compliance Deadline Quickly Approaching; SEC Staff Issues New FAQs," which focuses on the aspects of MMF Reform that go into effect this coming April. Authors Jack Murphy, Brenden Carroll, Stephen Cohen and Justin Goldberg write, "The April 14, 2016 compliance date for certain new money market fund requirements adopted by the U.S. Securities and Exchange Commission is quickly approaching. In particular, money funds will be required to: Comply with new diversification and stress testing requirements; Report new information on their websites; and Incorporate new disclosure into their registration statements and advertisements." Also, JP Morgan Asset Management came out with a report on "Liquidity Investors and Basel III," authored by Andrew Linton, Head of Product Development for the J.P. Morgan Global Liquidity Group. We examine both the Dechert and JPMAM pieces below.
The Dechert paper says, "Money funds and their advisers should consider updating their policies and procedures, registration statements and advertisements and adopting new systems and controls to address these requirements in advance of the upcoming compliance date. Certain of these changes may need to be approved or ratified by the money fund's board of directors/trustees (board).... This OnPoint provides an overview of the new requirements that have an April 14, 2016 compliance date, as well as the updated FAQs. The compliance date for the remaining new money fund requirements adopted by the SEC -- namely, liquidity fees, redemption gates, floating net asset value (NAV) and retail eligibility -- is October 14, 2016. Money funds and their advisers should consider whether changes to any agreements with intermediaries are necessary to incorporate the requirements with an October 14, 2016 compliance date."
The update provides an overview of each of the rules that go into effect on April 14, 2016, starting with the Diversification requirements. Dechert writes, "Rule 2a-7 under the Investment Company Act of 1940 currently requires that money fund portfolios be diversified as to the issuers of securities they own, as well as to any guarantors and demand feature providers related to those securities. The amendments to Rule 2a-7 include changes to these diversification provisions of Rule 2a-7." The diversification rules call for: Grouping of affiliates for 5% issuer diversification limitation; Sponsor of asset-backed securities as guarantor; and Removal of the 25% basket.
Next is Stress Testing. They explain, "The Amendments will enhance stress testing requirements. Specifically, effective April 14, 2016, money funds will be required to periodically test their ability: (1) to have invested at least 10% of their total assets in weekly liquid assets; (2) to minimize principal volatility; and (3) for stable NAV money funds, to maintain a stable NAV per share, based upon certain hypothetical events. In addition, money funds will be required to test their ability to maintain these conditions not only in response to such hypothetical events, but also in combination with various levels of shareholder redemptions. Money fund advisers also will be required to include additional information in the stress testing reports to money fund boards, including: (1) a summary of the significant assumptions made when performing the stress tests; (2) various assessments of a money fund's ability to withstand certain hypothetical events; and (3) any such other information as may be reasonably necessary for a money fund's board to evaluate the stress tests and the results of such tests."
On the pending "Website Posting" mandates, Dechert writes, "The Amendments will require a money fund to "prominently" disclose on its website the following information as of the end of each business day during the preceding six months: (1) the percentage of total assets invested in daily liquid assets and weekly liquid assets; (2) the daily net inflows and outflows; and (3) the current NAV per share rounded to four decimal places. This information, which would include fund data from the six-month period preceding the compliance date (i.e., information for the period commencing October 14, 2015), must be presented in the form of a schedule, chart, graph or other depiction. The Amendments also will: (1) revise the categories of investments that are currently required to be reported on a money fund's website; and (2) require that money funds disclose certain events on their website, which money funds must also report on Form N-CR (e.g., when the money funds receives financial support from its sponsor or other fund affiliate)." Also, money funds will be required to include a new risk disclosure in their prospectus summary section and sales materials.
The OnPoint also explains, "Possible Changes to Policies and Procedures and Possible Supplements to Money Fund Registration Statements," writing, "In light of the rapidly-approaching April 14, 2016 compliance date, a money fund and its adviser should consider updating existing policies and procedures (or developing new policies and procedures) to ensure that the fund has updated its diversification and stress testing requirements, revised its website disclosure policies and implemented the various clarifying amendments to Rule 2a-7. Changes to existing policies and procedures (or new policies and procedures) may need to be approved or ratified by the money fund's board. In addition, with respect to the new registration statement disclosure requirements, money funds may need to amend or supplement their disclosure documents to incorporate the new disclosure requirements prior to April 14, 2016."
Dechert also notes that the SEC updated its FAQs for the third time. They say, "On January 13, 2016, the SEC Staff updated the FAQs that it originally released on April 22, 2015. Among the revisions made to the FAQs were the addition of questions regarding reverse stock splits, private money funds, multi-class money funds and government money funds. You can read the FAQ update here."
Finally, they conclude, "Compliance with the Amendments may involve revisions and additions to money fund policies and procedures, some of which may entail board consideration and approval. Therefore, it is important that money funds and their advisers plan in a timely manner for the relevant changes to the funds' operations relating to diversification, stress testing and disclosure."
JPMAM's piece on "Liquidity Investors and Basel III" examines the impact of new regulations to help cash investors most effectively segment and structure their portfolios. In summary, it explains, "Basel III regulations redefine global standards for bank capital, liquidity and leverage, and will profoundly impact how banks manage their balance sheets. Liquidity investors need to understand how banks will treat deposits under the new rules. In this way, they can most effectively structure and segment their liquidity portfolios to gain the greatest benefit from the new rules and incentives, and maximize their investment returns."
It continues, "Deposits deemed to be non-operating cash will be less attractive to banks than those categorized as operating cash. Though the precise definition of operating cash is not yet final, it will be stricter than previous standards. Deposits categorized as non-operating cash, such as wholesale funding from financial services corporations, will move off bank balance sheets into alternatives such as money market funds, separately managed accounts and self-directed individual securities. Though Basel III will not be completely implemented until 2019, in January 2014 European and U.S. banks started to report under the new regulations, and many large banks are choosing to follow the rules sooner than required."
Furthermore, JPMAM's Linton explains, "A centerpiece of Basel III -- widely described as a "game changer" in the way banks view their deposits -- is the liquidity coverage ratio (LCR). It aims to ensure that a bank can meet its liquidity needs in a severe stress scenario. Specifically, the regulation looks to make certain that a bank holds a sufficient stock of unencumbered assets that can be converted into cash within a day, without a decrease in value, to meet all of the bank's liquidity needs for a 30-day stress scenario. The ratio of high-quality liquid assets (HQLA) to a bank's expected net cash outflows during this period must be greater than 100%.... The regulations will have a particular impact on financial institutions, an important contingent of liquidity investors."
He concludes, "Properly segmenting cash balances into operating and non-operating pools and making investments that maximize returns on both pools has never been more important. Liquidity investors should work with their banks to maximize their operating cash returns and with their investment managers to maximize their investment returns."
