Last week, Crane Data hosted its latest webinar "Handicapping Money Fund Reforms," which featured our Peter Crane and Dechert LLP's Steve Cohen discussing the latest developments on further Money Market Fund Reforms and when to expect a regulatory proposal from the SEC. We quote from the session below. The recording is available here for those that missed it. (Note: Mark your calendars for our next free webinar, Asian Money Fund Symposium, which will take place June 17 from 10am-12pm EDT. Register here: https://attendee.gotowebinar.com/register/1572569223058129680.)
Cohen comments, "As we talk about what's going on, with future reforms as well as the 2014 reforms, you'll see that the regulators have really moved away from just that idea of trying to preserve the fund's stable NAV and have really focused more on systemic risk. They've been focused on potential redemptions; heavy redemptions from money market funds that could cause systemic or contagion issues in the system. So, I just want to kind of keep that in context. That's a newer sort of phenomenon with respect to money market funds and the way the regulators look at money market funds."
He tells us, "In 2010, the SEC proposed and then adopted pretty quickly, extensive amendments to Rule 2a-7. Those addressed a lot of the issues associated with the Lehman bankruptcy and the Reserve Fund breaking the buck. The risk limiting provisions that I was talking about, the diversification requirements, the quality requirements, the maturity requirements, they were changed and strengthened. WAMs were reduced from 90 days to 60 days; it created a WAL limit of 120 days. It posed these new weekly liquidity requirements and daily liquidity requirements -- and we'll talk about that in a bit because it will be very important to think about for future reforms -- and also some new disclosure requirements and reporting requirements."
Cohen says, "Now, even though there were extensive changes to money market funds in 2010, the chairman of the SEC at that time, Mary Schapiro, had said when they were adopted that this was just a first step. But the SEC really struggled to propose additional reforms.... The SEC under a new chair, Mary Jo White, ended up proposing new reforms in 2013 and then those reforms were adopted in 2014 with the final compliance date of October 14th, 2016. So, we've been living for about five years under the new rules.... Institutional Prime and Municipal money market funds ... have to operate with the floating NAV per share and the possible imposition of fees and gates. Retail money market funds can operate with a stable NAV per share, but they have to have fees and gates. And government money market funds are able to operate with a stable NAV per share without fees and gates."
On March 2020, he adds, "Unlike in 2008, where there was a clear credit event ... this time around it really was a liquidity issue. And the issue was, could investors get out before there was a potential for fees and gates? I think the other concern was ... a fear [over] triggering a Form N-CR filing, including sponsor support. By the end of the week of March 16, the Federal Reserve Board stepped in and established what's referred to as the Money Market Mutual Fund Liquidity Facility, or the MMLF, to provide support for the money markets and for providing liquidity in the money markets.... Ultimately, I think the point is, the MMLF did help restore liquidity in the money markets."
Crane says, "I should add on the last round of reforms that the real change from the fund industry's perspective was not just what the SEC did. The investor reaction of moving $1 trillion dollars from prime into government [MMFs] probably did more to reshape the industry than all the changes. They did that in anticipation of the gates and fees to avoid the floating NAV and gates fees, but you basically had prime money funds cut from $2 trillion to $1 trillion in 2016. And so, they were a lot smaller this time around. And you see the Government funds spiked up in March. Prime had what I still won't call a run; I call it a 'brisk walk'.... And then the Fed and the Boston Fed thankfully reignited those programs to support it."
Cohen also comments, "Immediately after the March 2020 crisis, global regulators, as well as banking regulators and even some representatives of the SEC, noted that work would likely need to be done in this space. I think it culminated ... right before Christmas, the President's Working Group on Financial Markets released a report on potential reform options for money market funds.... [They] recommended that more should be done to address, again, systemic risks and structural vulnerabilities in money market funds [and] presented ten possible options."
He continues, "I'll go through the ten options really quickly, but the first and I think the one that most of the industry has supported, is the removal of the tie between the money market fund liquidity and gate thresholds. So, de-linking that 30 percent weekly liquid assets from the determination by a board to impose fees and gates ... that's actually a new option. One thing I forgot to mention about the PWG, it also after the 2008 crisis issued recommendations ... many of which are reappearing here in this most recent iteration."
Cohen tells the webinar, "The second option was, reforming the conditions for imposing redemption gates, perhaps not having the 30 percent and the 10 percent, other options around that. A third option was the position of a minimum balance of risk.... Money market fund liquidity changes was another option, so different proposals around liquidity management. Countercyclical weekly liquid asset requirements, this would be as there are large redemptions the threshold decreases so that there's not this pressure of a fund having to meet 30 percent at all times. Another option [is] imposing the floating NAV on [retail] prime and tax-exempt money market funds.... Swing pricing requirements ... having a capital buffer requirement [and] a liquidity exchange bank membership [were other options]."
He adds, "As I mentioned, most of these were floated, or at least raised at some point, following the 2008 crisis and the 2010 amendments as potential future reforms. But I think ultimately, they were all, except for the first one, deemed to be too burdensome or in some cases unworkable or would dramatically hurt money market funds which of course, do provide a lot of funding to the short-term space. The other thing that was interesting is the SEC immediately jumped on this and put it up for comment ... and requested that the industry provide feedback, and indeed many fund groups and trade associations did."
Crane then says, "If you look at the SEC site, there are 50 comments, and one of the interesting things that strikes me is that [the] fund companies, as Steve said, almost unanimously support the delinking of gates and fees, and don't like many of the other, I call them the 'zany grab bag' options that were that were put out there. Then you had 30-or-so industry types, and a handful of mad professor comment letters that basically said, 'Turn them into banks, kill them all.' It was interesting to see that the split between, the industry not wanting many changes and academics wanting radical changes."
He continues, "The letters themselves, there's a ton of work that goes into them and they're really great tools for teaching people about the money fund business. I mean, it's amazing how much history and how much work you can distill out of them. When you have to run them by lawyers and the executive committee, surprisingly, you get some good stuff out of it. First off, it's sort of crazy that the government let Lehman Brothers go bankrupt after saving everything and then criticized the industry for needing support. And then, the government shut down the economy and caused this lock up and criticized people for what they did.... I love the ICI's comment, '[O]ur examination of the reform options has led us to the same conclusion the PWG apparently reached, there's no silver bullet against the severest market distress scenarios. Any new reforms for money market funds must be measured and appropriately calibrated against the costs and benefits."
Finally, Crane summarizes, "The industry really [said], 'changes are good, changes are necessary, but like last time, all you can do is throw out a series of tweaks and hope to prevent this giant major crisis.' But when the giant major crisis comes, or is foisted upon you, you know, you really need help from other segments. Fidelity was 'preserve and protect'. BlackRock's letter was 'look holistically.' They and a lot of others said, really, you need to look at the CP market, you need to look at the broader market to solve this problem.... Schwab and Vanguard abandoned the solid front [supporting a] floating NAV for retail money funds.... Wells Fargo [says] it's impossible to eliminate run risk entirely, do not threaten the viability." (See all the comment letters to the SEC here.)
