ICI Outlines Proposed Liquidity Facility for Prime Money Market Funds
- The Investment Company Institute ("ICI") has unveiled the proposed outlines of a private emergency liquidity facility ("LF") that would be available to purchase high-quality short-term assets from prime money market funds during times of unusual market stress. By these purchases, the LF would enable prime money market funds to satisfy shareholder redemptions without selling assets into a down market. Prime money market funds would be required to participate in the LF, and assets eligible for purchase would include commercial paper, asset-backed commercial paper, bank notes and bankers' acceptances. A fund could not access the LF if it had broken the dollar.
The blueprint was unveiled in the comment letter that the ICI filed with the SEC on the Report of the President's Working Group on Financial Markets on Money Market Fund Reform Options (the "Report"). The Report is an analysis of the alternatives for the fundamental reform of money market funds, which briefly discusses proposals (including a liquidity facility) which have been considered by industry participants in the two years since the Reserve Primary Fund broke the dollar, contributing to a run on prime money market funds and prompting calls for reform of money market funds.
Details of the LF
The LF would be a state-chartered bank or trust company capitalized through a combination of initial contributions from prime fund sponsors and ongoing commitment fees from member funds. The liquidity facility would also issue FDIC-insured time deposits to third parties and would have access to loans from the Federal Reserve's discount window.
The initial capital of the LF would come from sponsors of prime money market funds, based on assets under management, with a target initial equity of $350 million. The minimum contribution would be $250,000 and the maximum contribution would be capped at 4.9 percent of total initial equity (to avoid "control" by a fund sponsor under a definition under the Bank Holding Company Act). The ongoing commitment fee from member funds is proposed to be 3 basis points per year on fund assets under management. The ICI estimates that the LF could amass $50 - 55 billion of capital within 10 years based on these contributions and commitment fees.
The LF would operate with a Board of Directors that would include members from fund groups ranging in size from small through medium and large. The Board would have the authority to take such actions as raising the commitment fee for the LF as yields on money market instruments rise, to enable the LF to build capital more rapidly.
Funds that use the LF would bear a usage fee and have limits on access designed to minimize moral hazard. Risk management procedures for the LF would be designed to prevent it from taking on credit risk and to make it unattractive as an arbitrage vehicle to funds seeking to sell assets in rising interest rate environments.
The ICI states that regulators should consider the LF as a factor in setting liquidity and capital requirements for banks that sponsor money market funds.
Many Issues to be Discussed
Many details and regulatory aspects of the proposal are yet to be resolved, and industry discussions are sure to focus on issues such as the cost of participation in the LF and the time line for capitalization -- with regulators and industry participants balancing the need for prompt capitalization with the desire to avoid the disruptive effects of new expenses where margins already have been pummeled by low interest rates and increased regulatory burdens. Industry participants also likely will weigh in on the definition of "prime" money market funds for whom participation is mandatory.
Regulators will need to consider the proposal that the LF will have access to the Fed discount window. Presumably, this should be acceptable, as the bank will have access to Fed loans on the same terms as other state chartered banks. On the other hand, it is possible that the Fed may take a more active role in oversight of money market funds under the proposed structure. It appeared that the regulatory framework might be moving towards a more active for the Fed in any case, given the Fed's membership in the Financial Stability Oversight Council ("FSOC") created under the Dodd-Frank Wall Street Reform and Consumer Protection Act. The FSOC has the duties, among others, to "collect information from member agencies [which include the SEC] . . .; monitor the financial services marketplace in order to identify potential threats to the financial stability of the United States; monitor domestic . . . financial regulatory proposals and developments; . . . advise Congress and make recommendations in such areas that will enhance the integrity, efficiency, competitiveness, and stability of the U.S. financial markets; recommend to the member agencies general supervisory priorities and principles reflecting the outcome of discussions among the member agencies; identify gaps in regulation that could pose risks to the financial stability of the United States . . ."
The LF calls to mind the successful Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility ("AMLF") which the Federal Reserve made available to provide liquidity to money market funds during the market crisis of September 2008. The AMLF helped money market funds meet redemptions by extending credit to banks and bank holding companies to buy asset-backed commercial paper from the funds.
Additional ICI Proposal; Additional Alternative Possible
In addition to proposing the LF, the ICI recommends the following.
* The ICI supports the possibility of a new SEC rule mandating that intermediaries (such as broker-dealers) disclose to money market funds information about underlying investors to better enable funds to understand and prepare for their shareholders' liquidity needs.
* The ICI also leaves open the possibility that money market funds could be offered in two varieties -- stable net asset value ("NAV") money market funds subject to "enhanced" regulatory protections and floating NAV money market funds that may operate under less stringent restrictions than those currently in effect. The ICI says that more details about the nature of the "enhanced protections" would be necessary before the ICI could determine whether to support this approach. The ICI rejects the alternative of stable NAV money market funds for retail investors only, on the basis, among others, that it is not feasible to categorize funds as "retail" or "institutional," and, in any event, "institutional" investors would move to less regulated products, thereby increasing systemic risk.
Other Proposals Rejected
The ICI believes that the LF is the best alternative to reform money market funds while preserving their essential characteristics and avoiding the unintended negative consequences of other alternatives in the Report. The ICI notes that certain other alternatives may engender increased systemic risk as investors flee from fundamentally transformed money market funds into unregulated or less regulated investment vehicles.
The ICI rejects the following additional alternatives in the Report:
* The ICI (and most of the other comment letters on the Report which are publicly available to date) make clear that funds, issuers and other industry participants continue oppose requiring a floating NAV for money market funds. The ICI contends that such a change would prompt investors to move to less regulated products, thereby increasing systemic risk and would not prevent runs on funds.
* The ICI also opposes requiring redemptions in kind, as shareholders would "work around" the requirement by allocating investments among multiple funds. Alternatively, this alternative will merely shift to shareholders the burden of selling assets into a down market, without minimizing systemic risk.
* The ICI also opposes regulating stable NAV money market funds as special purpose banks on the basis, among others, that applicable deposit insurance would need to be unlimited to provide adequate protection, which may result in vast, destabilizing flows of funds out of the banking sector. Also, imposing a requirement for a bank-like capital buffer on money market funds may eliminate money market funds as a viable product.
* The ICI states that insurance for money market funds would, among other drawbacks, negatively affect the banking sector and create moral hazard.
* The ICI contends that enhanced constraints on money market fund substitutes are unlikely to achieve the goal of reducing the risk of runs on money market funds.
The SEC's request for comment on the President's Working Group report is available at:
The ICI's comment letter is available at:
The ICI's slides accompanying the comment letter are available at:
Other comments on the President's Working Group report are at
For my Fund Alert on the President's Working Group report, see
Joan Ohlbaum Swirsky, Esquire
Stradley Ronon Stevens & Young, LLP
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Philadelphia, PA 19103-7018