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New rules for money market funds are set to go into effect on Oct. 14. Money market funds are typically the cash holdings option in an investment account. These changes are in response to problems that occurred in money funds eight years ago during the credit crisis.
Money market funds have historically maintained a $1 per share fixed value. However, in 2008, at the peak of the credit crisis, the securities held in these funds experienced a dramatic loss of liquidity. One money fund, The Reserve Primary Fund, incurred losses and “broke the buck” when its net asset value fell below $1 due to holdings in Lehman Brothers debt securities. This caused a run on the fund as investors pulled their money and the panic forced the government to temporarily guarantee full return of principal on money market funds.
So, beginning this October, institutional prime money funds will price and transact with a variable net asset value that fluctuates with the value of the securities in their portfolios. All retail and government money market funds will, for the time being, continue to have a fixed $1 per share value.
In addition, in times of market stress, both retail and institutional money funds will be able to impose redemption fees of up to 2 percent on withdrawals if the funds’ weekly liquid assets fall below 30 percent, and they can impose a fee of 1 percent if weekly liquid assets fall below 10 percent. In addition, they can suspend all fund redemptions (redemption gates) for up to 10 business days if the funds’ weekly liquid assets fall below 30 percent.
Government money market funds are permitted, but not required, to implement liquidity fees and redemption gates.
Ahead of these changes, there has been some major repositioning of the $2.7 trillion held in money markets. Thankfully, most brokers made switches between money funds that needed to be made for their retail customers without account holders having to do anything.
Institutions have had to make some difficult decisions on their own. Many institutions are shifting out of institutional prime money funds and into government money funds. Assets in government funds have increased 29 percent this year—this despite yields in government funds that are considerably lower than prime funds—while assets in institutional prime money funds have dropped below $1 trillion, to their lowest level in 17 years. Corporate treasurers seem to be opting foremost for liquidity, with yield as a secondary concern.
This massive shifting already has the Treasury issuing $188 billion in additional Treasury bills to meet the new demand in government money funds. Also, the flow into short-term government securities has pushed up yields in the Libor market, which could increase earnings at banks whose loans are tied to Libor rates.
That it has taken eight years since the credit crisis, and four years since the Financial Stability Oversight Council recommended these actions, is a testament to just how long it takes for regulatory changes to be approved.
When the next financial crisis hits, investors could find access to their cash in money funds temporarily restricted—an unfortunate, but necessary, consequence if taxpayers don’t want to be on the hook for money fund bailouts.•
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Skarbeck is managing partner of Indianapolis-based Aldebaran Capital LLC, a money-management firm. He can be reached at 818-7827 or ken@aldebarancapital.com.
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