Standard & Poor's Global Ratings published, "How Liquidity Risk Factors Into Money Market Fund Ratings," and a "Credit FAQ: Will SEC Rule Changes Affect Our Ratings On Money Market Funds?" The first paper says, "Liquidity is an integral component of all ratings S&P Global Ratings assigns (see "Liquidity Plays A Multifaceted Role In Credit Quality," published June 1, 2016). Our detailed reviews of funds' liquidity have helped inform our ratings on funds as they navigated through periods of illiquidity that have frequently occurred in conjunction with a trough in the credit cycle, marked by rising defaults, deteriorating credit quality, and investors seeking more creditworthy assets." (Note: Thanks to those participating in Crane's Money Fund Symposium, which started yesterday in Philadelphia! We hope you enjoyed Day 1 and look forward to a full day of sessions for Day 2.)
S&P explains, "Our weekly surveillance of our principal stability fund ratings (PSFRs) on money market funds (MMFs) and frequent discussions with fund managements have enabled us to effectively monitor MMFs' liquidity during periods of significant liquidity stress, asset prices declines, and secondary-market illiquidity. If our analysis concludes that an MMF's liquidity doesn't provide sufficient resources for redemptions, our rating would be lower than indicated by our initial quantitative assessment.
They continue, "Since we began assigning PSFRs on MMFs in December 1983, one thing that has become clear is that quite often, there are no two MMFs with the same characteristics. This is particularly true for investor composition, given the various investors' unique liquidity requirements. We thus take a qualitative approach to reviewing fund management that assesses a manager's strategy for maintaining sufficient liquidity based on its shareholders' needs and expectations. During the 2008-2009 financial crisis, we observed that some structures with defined liquidity metrics failed to withstand the liquidity stress of that period. The lesson learned was that focusing on asset liquidity and fund liquidity was more important than any specific minimum liquidity metric. In our view, a tailored approach to assessing a fund's liquidity and the liquidity of its assets is effective in determining the fund's liquidity risks."
The piece tells us, "We believe the MMFs we rate investment grade have sufficient safeguards for asset liquidity risk and fund liquidity risk to enable them to hold sufficiently liquid assets and manage their liability redemptions. We do not assume in our ratings assessment that sponsors will support funds they manage by providing liquidity during times of stress. While this did occur during the financial crisis, we believe a 'AAAm' rated MMF should be able to manage credit, market, and liquidity risks by selecting adequate assets and managing its liabilities appropriately."
It states, "Asset liquidity risk is the risk that a fund will be unable to sell an asset in a timely and cost-effective manner. Fund liquidity risk is the risk that a fund will not have sufficient assets to deal with unexpected redemptions--its own version of a liability. When analyzing asset liquidity risk, our criteria (see "Principal Stability Fund Rating Methodology," Feb. 1, 2016) address the eligibility and concentration of an MMF's assets. We view investment in securities of high credit quality as necessary to qualify for our highest MMF ratings. To assess fund liquidity risk, in accordance with our criteria, we look at the average maturity of a fund, monitor a fund's maturities and weekly redemptions, evaluate the characteristics of the shareholder base, conduct our own stress testing of the portfolio, and review specified stress tests the fund manager produces."
Finally, the update adds under the subhead, "Liquidity Analysis Remains An Important Part Of Our Principal Stability Fund Ratings," "We believe our PSFRs offer investors an independent third-party opinion of a fund's ability to maintain principal value. We will continue to actively monitor all of our PSFRs on a weekly basis as well as provide the market with the highest transparency of our process and methodology for rating MMFs. One of the key areas of assessment is funds' liquidity--both asset and fund liquidity. Understanding funds' specific characteristics has proven valuable throughout our ratings history, and our analysis of their liquidity has been especially important to our ratings during times of financial stress in the market."
S&P's other update says, "On Oct. 14, 2016, the last of the SEC's revised rules that govern money market funds (MMFs) will go into effect. The key provisions of these guidelines include requiring institutional prime and institutional municipal MMFs to change from maintaining a stable net asset value (NAV) to a floating NAV and giving fund boards the ability to impose fees or gates (a temporary suspension of redemptions) if a fund's level of liquidity falls below certain thresholds. S&P Global Ratings' assessment at the time these amendments were adopted in July 2014 was that they were unlikely to affect our ratings; today, we continue to hold this belief (see "Principal Stability Fund Ratings Will Likely Hold Steady Amid Money Market Fund Reform," published Aug. 5, 2014)."
It adds, "A principal stability fund rating (PSFR), commonly referred to as a money market fund rating, is a forward-looking opinion about a fixed-income fund's ability to maintain principal value (i.e., NAV). We typically assign PSFRs to funds that seek to maintain stable or, as is prevalent in non-U.S. funds, accumulating NAVs. S&P Global Ratings' PSFR analysis focuses primarily on the creditworthiness of the fund's investments and counterparties. We also assess the fund's investment maturity structure and management's ability and policies to maintain the fund's stable NAV. Below, S&P Global Ratings answers questions on how we rate funds and how these regulations may affect our rating process."
