Wednesday, January 27, 2010

New SEC rules for Money Market funds

Happily, I don't see anything here about limiting or halting redemptions.


US SEC Adopts New Money Mkt Fund Rules; More To Come This Yr
Wednesday, January 27, 2010 - 13:49

WASHINGTON (MNI) - The Securities and Exchange Commission Wednesday adopted a new set of rules governing money market funds, but with some key differences from the initial proposals, such as abandoning the differentiation between retail and institutional funds for liquidity requirements.

The vote was 4 to 1, with SEC Commissioner Kathleen Casey disagreeing on the basis that the reforms do not address the fundamental issues, particularly as money market funds remain susceptible to runs.

Unless such funds are regulated like banks, she said, floating net asset values might be the way to go.

SEC Chairman Mary Schapiro said the Commission will actively consider that path in looking at a new set of rules expected this year.

Like the initial proposals, the amendments adopted at Wednesday's open meeting aim at reducing risks associated with investing in money market funds through tighter credit quality and liquidity requirements, shorter maturity limits and the disclosure -- albeit on a delayed basis

Going forward, a set of important additional reforms is expected this year, Schapiro said, although the discussions during the meeting did not indicate a date.

Among the key changes under consideration is a switch to a floating NAV, rather than the current stable regime under which an investor expects $1 in to be $1 out.

"At my request, the Commission's staff is actively engaged in evaluating and preparing recommendations that will more fundamentally transform money market funds -- with a particular focus on evaluating the merits of a floating NAV," Schapiro said.

"We will continue to oppose strongly any move that would directly or indirectly require money market funds to abandon the $1.00 fixed net asset value that has been a defining feature of these funds," the Investment Company Institute reacted Wednesday, sticking to its longstanding position.

Other aspects of the money market fund regulation are also under consideration, including mandatory redemptions-in-kind for large redemptions (such as by institutional investors), real time disclosure of shadow NAV rather than on the delayed basis as the Commission approved Wednesday.

The commission is also considering a private liquidity facility to provide liquidity to money market funds in times of stress, a two-tiered system of money market funds, with a stable NAV only for money market funds subject to greater risk-limiting conditions and possible liquidity facility requirements.

"Several other options (are) being discussed with the President's Working Group," Schapiro added, without specifying.

In seeking to further reform the regulation of money market funds, Commissioner Luis Aguilar warned how important it is to avoid a flight on the investors' part to "unregistered vehicles."

One way to avoid that, he said, is to also look at those investment vehicles in the context of a second ruling.

For now, the rules introduce few but key changes from the initial proposals made last summer.

On the liquidity front, the SEC had initially proposed to require retail money market funds to maintain at least 5% of their assets in cash or cash equivalents, while 15% of the assets should be convertible to cash within one week. For institutional money market funds, the corresponding figures would be 10% and 30%.

The amended proposal no longer differentiates between the categories of funds, with all taxable money market funds required to hold at least 10% in cash or cash equivalent on a daily basis. All money market funds must maintain at least 30% in cash or equivalent on a weekly basis.

The structure of the industry is such that funds are organized in share class or master fund/feeder fund type of structure, a staff member noted.

As a result, the initial proposal would have forced restructuring in the industry, which is very "uninterested" in such a change.

Should the industry express interest in reinstating the differentiation, however, the staff would consider it, he said.

Other proposals aimed at improving liquidity restrict funds from holding more than 5% of their portfolio in illiquid assets, defined as assets "that cannot be sold or disposed of within 7 days at carrying value."

The amended rules are also more accommodative regarding the quality of securities money market funds can invest in relative to the initial proposal, responding to opposition against banning such investments.

The initial proposal wanted "to allow money market funds to invest only in first tier securities."

"Under the proposed amendments, money market funds could 'acquire' only 'eligible securities,' which would be re-defined to include securities receiving only the highest (rather than the highest two) short-term debt ratings from the 'requisite NRSROs,'" the latter referring to nationally recognized statistical rating organizations.

Under the amended rule adopted Wednesday, however, investments in such lower quality securities would only be lowered to 3% of the portfolio from 5%.

A fund cannot own more than 0.5% of its assets in a single second-tier security, and those securities must mature in less than 45 days, rather than the current limit of 397 days.

Shorter maturities are not only imposed on second-tier securities, as the rules adopted by the Commission shorten the funds' portfolios' maturities in general, without any key change from the original proposal.

The rule reduces the funds' average maturity to 60 days from 90 days, while introducing a 120-day cap on the portfolio's maximum weighted average life maturity "to limit the ability of the fund to invest in long-term floating rate securities."

Other rules include so-called "Know Your Investor Procedures" to identify investors' redemption requests that may pose risks for the fund, as well as periodic stress tests, as was initially proposed last summer.

The SEC also maintained the requirements relative to credit rating agencies, which should help "screen" securities' credit quality rather than replace credit analysis from the portfolio managers.

In particular, the rule requests "funds to designate each year at least four NRSROs whose ratings the fund's board considers to be reliable" and "eliminate the current requirement that funds invest only in those asset-backed securities that have been rated by an NRSRO."

That change, according to Commissioner Casey, does not help reducing reliance on credit rating agencies, a "concern" somewhat shared by Schapiro, who stressed that money managers should not use credit rating agencies as a "shortcut" for determining whether it is adequate to own a security.

The SEC's rules are also enhancing disclosure of portfolio securities, by requiring money market funds to post their holdings on their website on a monthly basis.

They must also disclose the shadow NAV on a 60-day delay basis, a requirement that could be changed later this year if the Commission switches to real time disclosure as some commissioners are asking.

The rules on repurchase agreements are also the same as the initial proposals.

In a typical repurchase agreement, a fund purchases securities from a broker-dealer or a bank, agreeing that the counterparty will repurchase the same securities at a specified price, at a later date. The securities purchased serve as the collateral for the agreement, hence for the money market funds.

The Commission's rule limits money market funds to investing in repurchase agreements collateralized by cash items or Government securities.

They must also evaluate the "creditworthiness of the counterparty, regardless of whether the repurchase agreement is collateralized fully."

** Market News International Washington Bureau: 202-371-2121 **