SEC pitches plan to prevent 'breaking the buck'

To prevent another instance of a money market fund's “breaking the buck,” the Securities and Exchange Commission is discussing placing capital requirements on such funds. The idea could trump the Investment Company Institute's proposal to create a liquidity bank, to which all money market funds would contribute. The bank would help backstop funds in case of an investor panic. Concern about the stability of money market funds stems from the 2008 financial crisis, when customers withdrew billions of dollars from their accounts in a matter of days. In September of that year, the Reserve Primary Fund, from Reserve Management Co. Inc., broke the buck when its net asset value fell to 97 cents a share. With few options, the U.S. government was forced to step in and provide a reserve for reeling funds. To prevent similar situations from occurring, the SEC last year passed stringent rules for the $2.8 trillion money market fund industry, mandating that funds meet daily and weekly liquidity requirements. Also last year, the President's Working Group on Financial Markets, which comprises officials from the Federal Reserve, the Financial Stability Oversight Council, the SEC and the Treasury Department, came out with a list of proposals to address potential liquidity problems in the money fund industry. As a result, the ICI in January came out with its proposal for a liquidity bank, to which each provider of money market funds would contribute, establishing a pool of money that could be tapped into if there were another run on the funds.

'TENTATIVE' SUPPORT

Although the fund industry “largely supports” the notion, the support has been “somewhat tentative,” Robert Plaze, associate director of the Division of Investment Management at the SEC, said via a video hookup during a panel discussion last week at the ICI's Mutual Funds and Investment Management Conference. Given that tepid response, the SEC is discussing other ideas such as those suggested by Fidelity Investments, which opposed the notion of a liquidity bank in its comment letters to the President's Working Group. Under the Fidelity proposal, money market funds would create a capital reserve or an “NAV buffer” by charging investors more over a period of time, said Norman Lind, head of trading for the taxable- and municipal-money-market desks at Fidelity Management and Research Co., the investment adviser for Fidelity's family of mutual funds. The SEC would work with fund boards to determine a range that a fund should keep for capital reserve, he said during a panel discussion. “Let's say you retain five basis points per year and you accrue that over time,” Mr. Lind said. “The idea is that once you have a buffer in place ... you stop charging that fee.” Unlike the ICI's proposal, Fidelity thinks that its idea is simple to implement and doesn't require regulatory changes, Mr. Lind said. “I think it's a fascinating idea,” Mr. Plaze said during a teleconference. “This does help with the liquidity issue.” BlackRock Inc. is also opposed to ICI's proposal for a liquidity bank, instead proposing that each money market fund company establish its own capital reserve through a special purpose vehicle. The SEC is discussing that proposal as well as other alternatives, Mr. Plaze said. The problem with implementing capital requirements on money market funds is that it ultimately means that investors will end up paying more, said Robert Kurucza, a partner at Goodwin Procter LLP and a former associate director of the SEC's Division of Investment Management. “A capital requirement in some fashion is going to increase the costs of money market funds,” he said. But Fidelity has spoken to a number of institutional shareholders who said that they would be willing to pay the added costs in exchange for the security of knowing that the buffer is there, Mr. Lind said after the discussion. And the idea is gaining traction. “We have six or seven big-name fund companies that have expressed interest,” Mr. Lind said, though he declined to identify the firms. “Also, we have spoken to the ICI about it, and they are very intrigued.”

ASSESSING THE PROPOSALS

The ICI is analyzing Fidelity's proposal, said Karrie McMillan, general counsel of the ICI. “We are discussing how we can take the varying proposals and refine and figure out what's best,” she said. Many attendees expressed skepticism that the SEC will shy away from the ICI proposal. “I could see how the SEC may like the idea of just setting rules rather than a private liquidity exchange, because it's cleaner and simpler, and they might fear that a liquidity facility might not do everything it's supposed to,” said Joshua B. Sterling, an attorney with Bingham McCutchen LLP. “But given that the ICI is behind this, I doubt that's an issue.” Another attorney at the conference, who asked not to be identified, said that he thinks that the SEC is just entertaining the notion of capital requirements on money market funds because it is getting pressure from the banking regulators, which have been pushing for this for years. The SEC will host a round table in May to discuss the issues, Mr. Plaze said. A date hasn't been set. E-mail Jessica Toonkel at jtoonkel@investmentnews.com.