From Money Fund Report®: Money-market funds were prepared to comply fully with reforms mandated in July 2014 by the Securities and Exchange Commission, Paul Schott Stevens, president and chief executive officer of the Investment Company Institute, wrote on the eve of last week’s MMF-reform compliance deadline. Stevens on Oct. 13 reflected the consensus of the money-fund industry, sources told Money Fund Report®, for what he called the "vital role" money funds play in meeting the cash-management needs of investors, and on his insistence that money funds need no further reform.
"Last Friday’s compliance deadline passed smoothly and seamlessly for us at Dreyfus and I think for the industry generally," Patricia Larkin, chief investment officer of Dreyfus Cash Investment Strategies, told MFR. That it did pass uneventfully, Larkin added, is a testament to the hard work and collaboration that characterized Dreyfus’ preparation for the reform deadline and to the collaboration and cooperation between regulators and the fund industry.
"The money-market-fund industry faced some daunting challenges coming out of the 2008 financial crisis," explained Niels Holch of law firm Holch & Erickson LLP. "Ultimately, the SEC identified the problem it needed to solve, which was the potential for a run on money-market funds by institutional investors in a stressed market," although he noted that it took several rounds of public comments and regulatory rulemakings to come to that realization. "Fortunately," said Holch, "the Commission’s approach was more surgical than some other regulators had recommended, and the floating NAV was imposed only on the funds that appeared most risky."
"Increasing the level of investor security about the dollar-in, dollar-out structure of money-market funds was the only outcome that regulators were looking for," observed Richard Rokus, director and senior portfolio manager at Great Lakes Advisors and an iMoneyNet Advisory Board member. "Everything else – including the effect of reform on the CP and municipal funding markets – was pretty much an unintended consequence, a necessary by-product of the attempt to make the $2.6 trillion industry safer."
Reform-related asset flows out of prime and into government funds, rather than into other liquidity alternatives, could be seen as a ringing endorsement of the safety and utility of money funds generally, Rokus noted, adding however that it is just as likely a reflection of investor pragmatism. "Once they decided to move out of prime funds – a decision motivated less by the floating-NAV requirement than by the possibility of fees and gates – investors seem to have taken the common-sense approach that among a limited number of investment alternatives – separately-managed accounts, bank products, short-term bond funds, and so on – government money-market funds represented the best liquidity option."
"If the nearly dollar-for-dollar move out of prime and into government funds is an endorsement of anything, it’s probably an endorsement of stable-NAV products that aren’t burdened by liquidity fees and gates," Laurie White, managing director and senior fund manager, taxable money funds, at Wells Capital Management and also an Advisory Board member, told MFR. "Banks, of course, are discouraging non-operating deposits, and there is only a limited number of other short-term cash-management options for large institutional investors, so in moving assets from prime to government money funds investors are pursuing what may be perceived as the least expensive and least complicated alternative."
Assets shifting into government funds aren’t risk free, however, White noted. "Some assets may flow back into prime funds or other instruments, but for now we have an additional $1 trillion in demand for government securities, which could be subject to the same stressed markets we’ve seen in the past during struggles over raising the debt ceiling."
"If the goal of reform was to make financial products and the economy safer, I think regulators succeeded in doing that, without a doubt," Rokus commented. "An important component of reform was bank deleveraging, but financial crises are often crises of confidence, and as a result of reform, confidence currently is rising."
Rokus predicts that, over time, money-market funds will reach an appropriate balance between prime and government fund assets, "but the extent of the flow of assets back into prime funds will depend on whether fund providers can demonstrate that they can operate floating-NAV funds through various market and credit cycles." That, he maintained, "might take a couple of years." Prime-fund investors, he said, "need to get comfortable with NAVs that float, and when they see that NAVs either don’t change, or that NAV variations are insignificant – and assuming yield spreads are attractive – they’ll feel confident about making investment-portfolio adjustments."
"I would argue that money-market funds were very safe prior to the financial crisis," Larkin noted, "and that they are even safer post-reform because so large a proportion of fund assets are in securities backed by the full faith and credit of the U.S. government." That reform-related asset movements took place within the industry, rather than out of the industry into alternative products, confirms that MMFs are relevant to the needs of investors, she maintained.
Larkin and her Dreyfus colleagues expect that money funds will remain an important investment class, and that "in some foreseeable time frame after the dust settles from money-fund reform investors will begin reassessing their investment positions." Larkin urged caution regarding the extent and the timing of flows back into prime funds, however. "Together, the impending presidential election, two scheduled meetings of the Federal Reserve – in one of which the Fed funds rate is likely to be raised – and year-end will be quite a lot for the short-term markets to absorb, so it’s very difficult to predict the timing of flows back into prime funds or whether any such flows will be modest or significant."
What is more certain, Larkin noted, is that the seamless passage of Friday’s reform deadline -- particularly the orderly transition of nearly $1 trillion from prime to government money funds – confirms the strength and stability of the fund industry and argues, as the ICI has argued, against the need for further reforms.