Regulators seek changes in how money-market funds operate


Treasury Secretary Timothy F. Geithner leads the Financial Stability Oversight Council, which has recommended steps for the government to more closely regulate the money-market industry. (Ron Edmonds/AP)
November 13, 2012

The government Tuesday inched closer to tightening its oversight of the $2.6 trillion money-market industry when a panel of top financial regulators put forward options for addressing the industry’s vulnerabilities.

The industry immediately expressed frustration with the proposal, saying it resembles a plan that failed to gain support from the Securities and Exchange Commission. That plan, vigorously opposed by the industry, stalled when three of the SEC’s five commissioners said they would reject it.

Under the recommendations put forward Tuesday by the Financial Stability Oversight Council (FSOC), the funds would have to set aside reserves as a buffer for times of crisis, restrict how quickly investors can redeem their money or allow the value of a fund’s shares to fluctuate. Currently, one share of a money market fund is generally valued at $1.

The funds have been popular with investors because they seem as stable and reliable as a bank account. But unlike bank accounts, they are not federally insured, and that image of security was shattered during the 2008 financial crisis when the Reserve Primary Fund, the nation’s first money-market fund, “broke the buck” because its value fell below $1 a share.

A run on money-market funds ensued, severely disrupting the financial system and exacerbating the financial crisis. The short-term credit market, which relies on loans from money-market funds, froze. And the government intervened by temporarily guaranteeing that investors would be repaid — a drastic step that has been prohibited by the Dodd-Frank financial overhaul measure enacted in 2010.

The FSOC, a relatively new regulatory body led by Treasury Secretary Timothy F. Geithner, said it is trying to prevent a repeat of that meltdown. In September, Geithner signaled that the FSOC would soon come up with options for revamping money-market funds, offer the public a chance to comment and present a final recommendation for the SEC to put in place. If the SEC fails to act, the FSOC could then declare money-market funds as a threat to financial stability and the Federal Reserve could end up regulating them.

The FSOC’s approach is “deeply flawed” and even futile, said Paul Schott Stevens, president of the Investment Company Institute, which represents mutual funds. The regulators are “proposing to send back to the SEC the very same concepts that a majority of the Commission’s members declined to issue” in August, he said in a statement.

The industry recently approached federal regulators with an alternative plan, but nobody involved in the talks has publicly disclosed the details.

One of the critical issues for the industry involves the idea of letting the share value fluctuate, which has been promoted by SEC Chairman Mary Schapiro. Opponents say it would create accounting and tax headaches that could ultimately push large institutional investors to abandon a relatively safe money-market fund sector, and possibly move their assets to less regulated parts of the market.

Schapiro, who sits on the FSOC, has argued that the stable value of a share has lulled investors into a false sense of security, creating an impetus for them to flee at the first sign of trouble. They are less likely to run if they grow accustomed to fluctuations, she said.

The FSOC proposed another option that would require most funds to put aside assets of up to 1 percent more than what is needed for the fund to maintain a $1 share price. Under that plan, shareholders with more than $100,000 in an account would have to keep a minimum balance — up to 3 percent of the highest account value during the previous 30 days. They would have to keep that money there for at least 30 days.

A third alternative would require a capital buffer of up to 3 percent of assets, but that could be reduced if other steps are taken to protect the fund against risk, such as diversifying the fund’s investments.

The FSOC said these recommendations are not mutually exclusive, and could be implemented in some combination. Jaret Seiberg, a policy analyst at Guggenheim, said that all sides have an incentive to get a deal done. The SEC does not want to look ineffective. And the industry wants to end the uncertainty that’s been dogging it ever since regulators started talking about stricter oversight.

The longer this drags on, Seiberg said, the more likely the industry is to face the possibility it most dreads: a fluctuating value for money-market shares. The idea is gaining traction, he said, “because it’s the easiest solution.”

“It’s clean and you don’t have to worry about breaking the buck,” Seiberg said.

Dina ElBoghdady covers housing policy for The Washington Post.
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