The Federal Reserve Bank of New York published an update under its "The Teller Window" paper series entitled, "Liquidity Fees, Swing Pricing, and the 2023 Money Market Fund Reforms." Authors Marco Cipriani, Antoine Martin, Patrick McCabe, and Will Riordan write, "In July 2023, the SEC issued a new set of reforms for the U.S. money market fund (MMF) industry. The reforms increase the amount of daily and weekly liquid assets a fund must hold, eliminate the link between weekly liquid assets (WLA) and the option to impose liquidity fees and redemption gates, and introduce a dynamic liquidity fee. This article describes some of the most important provisions of the reforms."
After discussing some background, they tell us, "The 2023 reforms change the MMF industry along several dimensions. One is abolishing the system of WLA-linked fees and gates introduced by the 2014 reforms. Under that system, if a prime or tax-exempt fund's WLA fell below 30 percent, its board had the option to impose a fee of up to 2 percent or suspend redemptions for up to 10 days. Fees and gates linked to funds' WLA have been criticized in the academic literature as potentially causing preemptive runs."
The paper states, "An important feature of the new reforms is the introduction of mandatory 'dynamic' liquidity fees for institutional prime and tax-exempt MMFs (institutional funds are those held by institutional investors, such as corporate treasurers and insurance companies, rather than retail investors). The fees will be imposed if, on a given day, a fund experiences net redemptions in excess of 5 percent of its assets. The fees are dynamic, in that they are set based on current market conditions. Specifically, the fee will be based on the cost of liquidating a slice of a fund's entire portfolio (not just the most liquid assets in the portfolio). The fee should incorporate all costs of redemptions (including transactions costs, bid-ask spread costs, costs of portfolio rebalancing to replenish liquidity, and market impact)."
It continues, "Since estimating liquidity costs can be difficult, a fund that cannot accurately quantify those costs also has the option to impose a default liquidity fee of 1 percent. Moreover, to prevent a fee being imposed when a fund experiences heavy redemptions but is not otherwise under stress, a fund will be allowed to waive fees that are less than 1/100 of a cent (1 basis point) per share."
The piece comments, "The SEC's dynamic liquidity fees are economically identical to partial swing pricing, where a fund reduces, or 'swings' down, the price it pays redeeming investors on days when the costs of managing redemptions are high. Like swing pricing, dynamic liquidity fees impose liquidity costs on redeeming investors when same-day redemptions exceed a specified threshold. This reduces investors' incentive to run when liquidity conditions in the markets deteriorate. Moreover, the fees protect remaining shareholders from dilution and allocate redemption costs more fairly across redeeming and non-redeeming investors."
It states, "The 2023 reforms include a number of other helpful provisions. For example, reporting requirements for MMFs have been enhanced, making it easier to monitor the industry. The reforms also increase the minimum amounts of liquid assets that all MMFs must hold to make them more resilient to large redemptions."
The authors add, "The SEC's dynamic liquidity fees are an important and promising innovation in MMF regulation, in part because they can be a disincentive for investors to run in a crisis. Nonetheless, the degree of protection provided by dynamic liquidity fees is uncertain. Such fees are untested for MMFs, and their efficacy will depend on effective calibration and may need to be adjusted over time. Moreover, the fees are only required for institutional prime and tax-exempt funds, in part because institutional investors have proven to be especially run-prone. Although retail prime and tax-exempt MMFs also experienced large redemptions in March 2020, they are not covered by the new liquidity fee requirement."
Finally, they conclude, "The SEC's 2023 MMF reforms -- particularly the removal of WLA-linked fees and gates and the adoption of dynamic liquidity fees -- represent significant progress in making prime and tax-exempt MMFs more resilient. Even so, given the longstanding fragility of MMFs, these funds may remain vulnerable to runs in periods of significant stress."
In other news, Axios published an article entitled, "How I accidentally made one of the most popular trades of the year." It says, "Through dumb luck -- emphasis on dumb -- I've gotten myself into the most popular trade of the year. Why it matters: High short-term interest rates -- and no sign the Fed will cut them anytime soon -- are attracting massive amounts of capital to money market funds."
The piece tells us, "The average annualized yield on money funds is now above 5%, according to Crane Data, an authority in the world of money markets. What they're saying: 'It's likely the highest yields since 1999,' said Peter Crane, president and publisher of Crane Data, in an email exchange. Crane's data only goes back to 2006. The latest: Money market fund assets just notched another record last week, the fifth straight week of new highs. There's now $5.5 trillion sitting in these accounts."
Lastly, Fox Business published, "Money market funds hit record as investors jump at 5% returns." They write, "Money market mutual funds are earning the highest interest rates in decades, making them an increasingly attractive option for investors seeking higher yields with relatively low risk. Savers are reaping the rewards of high returns on money market mutual funds.... Money markets are often treated similarly to savings accounts as they afford investors a relatively safe and liquid means of stashing their cash."
They say, "Money market funds are paying an average interest rate of 5.15% according to Crane Data, which is the highest level since 1999 and comes after money market yields were typically much lower over the last two decades."
