Friday, October 24, 2014

Money market fund changes - learn to do without

The coming regulation on money market funds (MMF's) suggests that smart money is going to have to find alternatives and do it themselves. These new rules will be implemented over the next two years and will mainly apply to institutional and government tax exempt funds. However, the implications will apply to all holders of money funds.

Simply put, the regulations will make money funds less money-like. In a crisis which may create "run on the bank" behavior, money funds will loose their moneyness of instant liquidity. These rules now institutionalize how and when funds will loose their moneyness which creates a new set of investor behaviors.  

First there will be the cash requirement that 30% of the portfolio has to be in liquid investments which means Treasuries that have zero return. That will put a yield drag on any portfolio. Second, there will variable NAV's for institutional portfolios. They will break the buck and float. It is odd that this will apply to the smart money but it will not apply to retail money. I guess you have to keep the small investors in the dark. The rule should either be applied to all or to none. There will also the potential for gates and penalties. You could be charged a penalty that exceeds the yield on the fund when the funds liquid assets fall below 30%. There also can be gate restrictions put on the funds. Now all institutions will have to watch the liquid assets and if you get close to the trigger levels you will pull your funds.  This will then lead to a penalty or a gate going up which will negatively effect all of the remaining investors.  These rules are in place to reduce the potential for a run on the bank. They now create some clarity on when runs will occur.

Don't call them money funds because if you think these funds will be like money when you need it, forget it. That was always the case, but now we have rules in place to ensure that they will not act like money.

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