Federated: Don't change money market rules

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There's a heated debate in Washington over Securities and Exchange Commission proposals to reduce risk among money market funds. After MoneyWatch blogger Nathan Hale wrote in supportof one proposed rule change, I heard from Federated Investors, a Pittsburgh-based financial services firm. In the spirit of robust debate, I'm reprinting the letter, from Communications Director J.T. Tuskan, in full below. Federated offers money market funds, and, like most of the $2.6 trillion money market fund industry, opposes the SEC's call for new rules.

First, some background: Money markets are low-yielding funds often used like savings accounts, but they are not FDIC insured. Most maintain a steady $1 share price, and they own safe, but not risk-free, high-quality, short-term bonds. In 2008, one of the biggest and oldest funds owned Lehman Brothers bonds that plummeted in value when the investment bank went belly up. Investors rushed for the exits, and the fund "broke the buck," trading at $.97 per share. In the subsequent panic, investors pulled more than $300 billion from money markets. Stability returned after the government stepped in to guarantee the funds and some companies quietly shored up their funds' balance sheets.

To avert future panics, the SEC is considering two approaches. One would increase the capital buffer money markets are required to hold and limit investors' ability to withdraw all their funds at once. The other would implement a floating value, so that instead of being locked at $1, the funds' share prices would fluctuate slightly as the value of the underlying investments changed. The idea is that investors would get used to the idea of a floating share price. Hale wrote in support of the second idea; below is Tuskan's response.

In his March 20 commentary, it appears that Nathan Hale argues for many of the SEC's proposed changes to money market funds simply because a national newspaper, Paul Volker and the SEC chair want change based solely on their opinion and a revisionist history but without any research or analysis of how current regulations are working. In Mr. Hale's view, this gives the SEC's concept for a floating the net asset value (NAV) of the funds "a broad base of support."

The facts tell another story and one Mr. Hale should have made use of in his commentary.

As a start, it is critical to recognize that money fund shares price at a stable $1 on a daily basis not because they have promised to repay shares at a dollar but because the underlying assets are required to meet very stringent portfolio requirements under current SEC regulations. The ability to transact at the $1 NAV provides a real benefit to the tens of millions in the U.S. who rely on money funds for cash management.

This is why over the past 15 months more than 100 corporations, business organizations, government entities and non-profits have written to the SEC to express support for money market funds and opposition to the potential of a floating NAV. The group includes: the US Chamber of Commerce and scores of state/local Chamber and business associations; National Association of State Treasurers and many State and County Treasurers; National Association of Corporate Treasurers and host of corporate treasurers; National League of Cities and US Conference of Mayors; National Association of College and University Business Officers; Consumer Federation of America and AARP. Now that is what I would call a broad base of support.

One would also have hoped, given his experience in the financial services industry and as a personal finance writer, that Mr. Hale would have a greater understanding of what actually happened in 2008.

Contrary to Mr. Hale's assertion, there was no bailout of money market funds. When a single money fund "broke the buck" in September 2008, it came 18 months into a widespread global financial crisis and after unprecedented three-day period which saw the collapse of Lehman Brothers, a number of major financial institutions on the brink, and the bailout of AIG. The Fed did not lend to any money market funds and the industry did not ask for or want the government's insurance program.

Even after regulators pushed ahead, fund companies suggested specific caps and starting the insurance as of a certain date. In the end, money market fund companies paid the U.S. Treasury $1.2 billion for insurance they did not use. This wasn't the answer to the liquidity problem roiling markets; the solution was the Federal Reserve opening the discount window. Looking at the reality of the situation, one could even say that money market funds were a victim, not a culprit, of the financial crisis. And that is what really happened, because in any debate the facts matter.