Following last week's April 11 deadline, dozens of new comment letters have been posted to the SEC's "Comments on Money Market Fund Reform" page. While we're still reading, the feedback so far has unanimously blasted the SEC's swing pricing proposal, and most have expressed major concerns with the proposal to force intermediaries to account for floating NAV government MMFs. Fidelity's feedback letter, written by Chief Legal Officer Cynthia Lo Bessette, tells us, "Fidelity Investments appreciates the opportunity to provide comments to the Securities and Exchange Commission on its proposed rule and form amendments relating to money market funds.... The stresses in the money market fund industry that occurred at the onset of the COVID-19 pandemic in the United States have been well documented. These stresses highlighted certain vulnerabilities in segments of the money market fund industry as well as the need to reconsider certain aspects of Rule 2a-7. Fidelity is encouraged that the SEC has sought to solve for these vulnerabilities in the Proposal by bolstering liquidity requirements and by reevaluating its prior support for temporary suspensions of redemptions (commonly referred to as 'gates'). Fidelity is also encouraged that the SEC did not propose other, more pernicious, reform options that would significantly disrupt the money market fund industry and, in turn, the smooth functioning of the capital markets. It is evident that the SEC, at least in portions of the Proposing Release, accounted for the feedback provided by the industry in response to the report of the President's Working Group on Financial Markets (the 'PWG') on potential reform options for money market funds."
It continues, "Fidelity has long served as a leading provider of money market funds and has extensive experience managing funds in both normal and stressed market conditions. With an ethos focused on meeting our customers' needs and delivering a superior customer experience, we view our money market fund business as an important component of delivering better outcomes for our customers. Fidelity first began managing and offering money market funds in 1974 and remains the largest provider of money market funds with approximately $940 billion in assets under management as of March 31, 2022, representing approximately 19 percent of the U.S. money market fund industry. Fidelity currently offers an extensive suite of money market funds, including government, prime and tax-exempt funds, to both retail and institutional investors. In addition, as a diversified provider of financial services, Fidelity witnesses firsthand and in real time the starkly divergent investment behaviors of different types of money market fund investors such as retail brokerage customers, individuals saving for retirement through employer-sponsored and individual retirement accounts, and corporate treasurers seeking short-term investment options for operating cash, among others."
Fidelity writes, "Based on this experience, we believe much of the Proposal, including increasing liquidity requirements and the SEC reevaluating its prior support for redemption gates, solves for the vulnerabilities in money market funds that surfaced in March 2020 and, in this regard, is an appropriate and positive regulatory response from the SEC. That said, we are equally concerned that other recommendations in the Proposal do not address the events of March 2020 and are inconsistent with the practical realities of managing and distributing money market funds. In particular, Fidelity believes that neither swing pricing nor the SEC's proposed requirements relating to negative yields are necessary or suitable tools to protect investors."
The Executive Summary says, "In the remainder of our letter, Fidelity evaluates each of the primary components of the Proposal, discussing in detail the points summarized below. In addition, we are encouraged that the SEC did not propose several of the other reform options described in the PWG Report, which would have severely and negatively impacted shareholders in money market funds, including capital buffers, insurance programs, a minimum balance at risk and a floating NAV for all funds. Our views are informed by our long-standing commitment to meeting the needs of our customers as their circumstances change and as markets evolve. Fidelity Supports the Removal of Gates; ... Fidelity Supports Higher Liquidity Requirements; [and] Fidelity Remains Strongly Opposed to Swing Pricing."
It explains, "Fidelity is deeply concerned that regulators have rushed to the conclusion that swing pricing would be an effective tool, despite the overwhelming evidence to the contrary. In particular: The SEC has failed to justify a need for swing pricing. The SEC acknowledges a lack of data quantifying the amount of trading costs or dilution that can arise from redemptions in institutional prime and institutional municipal funds, but nonetheless concludes that swing pricing would solve for 'significant, unfair adverse consequences to remaining investors in a fund' caused by other shareholders' redemptions. To the contrary and based on our experience managing a broad array of money market funds for many years, shareholders are not motivated to redeem based on the potential for dilutive trading costs. Money market funds maintain ample short-term liquidity allowing the funds to satisfy redemptions with liquidity on hand, resulting in no trading costs and no dilution imposed on other shareholders from redemptions. As a result, there exists no problem that swing pricing would solve."
Fidelity's letter continues, "The proposed removal of gates and higher liquidity requirements make swing pricing even less necessary.... By eliminating gates and by requiring funds to maintain even higher percentages of liquidity, any small justification that may have existed for swing pricing is rendered moot.... Even with the introduction of a market impact factor, NAVs would never move sufficiently to affect shareholders' decisions to redeem.... [N]early imperceptible adjustments to a fund's NAV are unlikely to affect a shareholder's decision to redeem. Operational impediments in the U.S. market remain. The obstacles to implementing swing pricing in the U.S. mutual fund market have been well documented since the SEC first introduced the concept in 2015. These obstacles center on the inability of fund companies to know flows in sufficient time to decide whether a NAV must be swung. Significant changes to the distribution of money market funds and a massive investment of shareholder resources would be required to enable the implementation of swing pricing. In the absence of any benefits from swing pricing, these operational impediments further underscore why swing pricing is an inappropriate regulatory tool."
The summary states, "The SEC Should Not Move Forward with its Proposal Relating to Negative Yields: The SEC's Proposal, which would require funds and broker-dealers to enact permanent solutions that have the potential to impact government money market funds that serve as daily investment vehicles for cash in retail brokerage accounts (or 'brokerage sweep vehicles'), is premature. A host of complexities to this issue exist and Fidelity encourages the SEC to undertake a concerted and thorough review (which the current environment of higher-than-normal inflation and rising interest rates affords), with input from the industry, of the many issues at play prior to mandating such a radical change.... In addition, because the Proposal as currently drafted could drive assets away from government money market funds, the Proposal could negatively impact both the Treasury Department's exercise of fiscal policy (with government funds holding close to 30 percent of outstanding Treasury debt) and the Federal Reserve's conduct of monetary policy. If the SEC proceeds with including requirements relating to negative yields in the final rule, we encourage the SEC to modify the requirements to not require that fund companies discontinue distributing funds through broker-dealers that cannot support a floating NAV now, but instead require that fund companies working with their intermediaries to have in place a reasonably adequate plan for how they would respond to a negative rate environment should one arise."
Fidelity adds, "The SEC Should Extend the Compliance Deadlines: The SEC should extend each of the compliance deadlines for the following portions of the Proposal: swing pricing and the related disclosure from 12 months to two years, requirements relating to negative yields from 12 months to two years, and the new Form N-CR and Form N-MFP disclosure requirements from six months to 18 months. These requirements all entail significant challenges to implement and likely will be occurring at a time when fund companies and administrators are implementing multiple other rule changes currently on the SEC's rulemaking agenda."
The comment letter also says, "Fidelity supports removing the gate provisions from Rule 2a-7 for the reasons cited by the Commission.... Fidelity is also encouraged by the SEC's willingness to revisit and eliminate a regulatory requirement it imposed less than ten years ago once events demonstrated that the requirement was not only ineffective but contributed to the very stresses the requirement was originally designed to prevent.... [W]e support the efforts of the Investment Company Institute to identify and propose an alternative to swing pricing that would involve a form of a liquidity fee and believe that, if properly constructed, such a fee potentially could serve as a more effective alternative than swing pricing.... As described in further detail above, the stresses experienced by money market funds in March 2020 were focused on liquidity pressures in publicly offered institutional prime funds.... Rather than attempting to increase liquidity once a crisis starts when the tools to do so may become unavailable, maintaining a healthier percentage of liquid assets prior to a crisis will prevent, or at the very least lessen, stresses on the fund if that crisis ensues."
On swing pricing, they write, "In the Proposing Release, the SEC has failed to state its case sufficiently for the adoption of such a drastic change to the mutual fund operating model that has served investors and the capital markets so well for so many years. Based on unsupported assertions of 'significant, unfair adverse consequences' and 'material dilution,' the SEC has proposed requiring that funds apply the speculative concept of a market impact factor in a manner that bears no resemblance to how investment advisors manage funds. In addition, Fidelity's analyses continue to demonstrate that swing pricing will not achieve the results that the SEC claims because the NAV movements will be immaterial. Given the lack of any benefits to shareholders from the adoption of swing pricing, it is unreasonable for the SEC to expect the industry to undertake lengthy and expensive efforts to solve for the significant operational impediments to swing pricing."
Fidelity also comments, "While we question the utility of swing pricing even in the absence of these other changes, these changes eliminate any small justification for swing pricing that may have otherwise existed.... As a result of these significant buffers, redemptions do not result in 'material dilution' or 'significant, unfair adverse consequences.' Given that the facts and data demonstrate that neither a problem exists nor that swing pricing would achieve the intended outcomes, Fidelity believes that swing pricing would have no practical benefit for money market funds or their shareholders."
They explain, "If adopted as proposed, swing pricing administrators would be obligated to generate an estimate of the market impact from a practice (i.e., the sale of a vertical slice of the portfolio) that a fund manager would never engage in and then impose that estimate on redeeming shareholders, notwithstanding that the shareholder's redemption was satisfied without cost to the fund and its other shareholders. The SEC's attempt to marry the faulty premise that money market fund redemptions can impose costs on other shareholders with a solution that involves estimates divorced from the actual trading patterns of mutual funds is not sound regulatory policy."
On private or internal money funds, Fidelity writes, "[W]e encourage the SEC to exclude institutional prime and institutional municipal funds that are offered for investment solely to mutual funds or accounts managed in the same fund complex. In the Proposing Release, the SEC asks whether it should provide exclusions of this sort from the swing pricing requirements. We encourage the SEC to exclude from the swing pricing requirements institutional prime and institutional municipal funds that are not sold to the public. This exclusion should include funds that are used by other funds and accounts in the same fund complex for managing cash, for investing collateral from securities lending transactions or for providing an efficient means for other funds and accounts to gain targeted access to certain market sectors."
They explain, "Fidelity believes such an exclusion is appropriate because the adviser knows the shareholders and has significantly greater visibility into upcoming redemptions. This allows the adviser to closely manage to the appropriate liquidity for the fund and virtually eliminates the prospect of unexpected redemptions. In addition, many of these funds are designed for specific purposes and, as such, are not as susceptible to redemptions based on unexpected market volatility. For example, institutional prime money market funds managed as a cash position for other mutual funds in the same complex have not experienced the sizeable outflows that publicly offered institutional prime funds have. In the critical period of March 2020, the Proposing Release notes that privately offered institutional prime funds faced redemptions of approximately six percent compared to approximately 30 percent for publicly offered institutional prime funds. Furthermore, money market funds that are used as investment vehicles for securities lending cash collateral have seasonal flows based on the demand for the underlying securities being lent and have little correlation to any volatility in the short-term markets."
They add, "Fidelity shares the concerns of many in the industry with the SEC's proposals relating to the potential for negative interest rates, which would require funds and broker-dealers to enact a permanent solution now even though the threat of negative interest rates has passed and may never return. We are concerned that the Proposal demonstrates a lack of appreciation on the part of the SEC of the scale and breadth of the issues that the Proposal creates as well as the potential negative consequences on government money market funds. In light of the complexities of this issue, we encourage the SEC to undertake significantly more review in consultation with the industry before adopting a final rule. Rushing forward with the Proposal as currently constructed without adequately studying the myriad of issues it creates could significantly damage the government money market fund industry and could significantly alter the customer experience for retail shareholders investing through broker-dealer accounts."
Fidelity explains, "Broker-dealers offer options for sweep vehicles, but the two most prevalent are government money market funds and bank deposits. Prior to the 2014 reforms, broker-dealers also offered prime money market funds as brokerage sweep vehicles but discontinued doing so once the redemption gate provisions in Rule 2a-7 went effective. The majority of Fidelity's broker-dealer customers have elected one of eight Fidelity government money market funds as the sweep vehicle. In the two most popular Fidelity funds, over $450 billion, or approximately 90% of the funds' assets, represent investments made from the operation of the brokerage sweep."
Finally, they comment, "Fidelity requests that the SEC adopt a compliance deadline of eighteen months for the proposed amendments related to Form N-MFP and Form N-CR. These changes will require industry participants, including Fidelity, to work with service providers to obtain the new information in a systematic manner that can be filed with the SEC within the five-business day deadline for Form N-MFP. A number of the new requirements will result in the volume of information provided on Form N-MFP to increase exponentially, such as security level detail on repurchase agreement transactions and lot level trade information. It is not an exaggeration to suggest that the new requirements will result in some fund complexes reporting thousands of new data points each month. In addition, to comply with the disclosure requirements of Form N-1A, funds currently obtain information on shareholder concentration on an annual basis with a required filing deadline of 120 days after the fund's fiscal year end. The Proposal would require that funds obtain this information every month and file it with the SEC within just five business days.... `Given the significant amount of data proposed to be gathered and included, Fidelity requests that the SEC modify its filing deadline for Form N-MFP of five business days to seven business days to allow for completion of the preparation and review processes."
