6.24.2009 The SEC voted unanimously to propose amendments to Rule 2a-7 under the Investment Company Act of 1940 designed to strengthen the regulatory framework for money market funds to increase their resilience to economic stresses and reduce the risks of runs on the funds. The SEC is seeking public comment on their proposals, which would: (1) require money market funds to maintain a portion of their portfolios in highly liquid investments; (2) reduce their exposure to long-term debt; (3) limit their investments to only the highest quality portfolio securities; (4) require the monthly reporting of portfolio holdings; and (5) allow the suspension of redemptions if a fund “breaks the buck” to allow for the orderly liquidation of fund assets. A money market fund “breaks the buck” when its net asset value falls below $1.00 per share, meaning investors in that fund will lose money.

The proposed amendments would:

  • Limit money market funds to investing only in first-tier securities, and preclude those funds from making new investments in second-tier securities;
  • Shorten the maximum dollar-weighted average portfolio maturity of money market funds to 60 days, from the current 90-day limit, and include a new limitation of 120 days for the weighted average portfolio life of money market funds;
  • Impose certain minimum liquidity requirements on money market funds. Money market funds would be required to hold specified percentages of their assets in cash or highly liquid securities. The SEC proposal would require funds whose institutional investors include companies and public pension funds to make sure that at least 10% of their assets could be sold in one day and a minimum of 30% could be divested within a week;
  • Permit affiliated transactions to, for example, allow an affiliate to purchase defaulted securities from the money market fund, when such transactions are in the best interests of the fund;
  • Enable the board of a money market fund to suspend redemptions in circumstances where the fund has “broken the buck” and plans to liquidate; and
  • Require cash to make up 5% of assets for funds with individual investors and 15% of the portfolio to be in holdings that could be sold within a week.

Money market funds would also be prohibited from investing in securities that don’t receive top rankings from ratings companies. Currently, the SEC permits 5% of a fund’s assets to be lower-rated securities.  

To prevent losses during runs, the SEC proposal would authorize a fund’s board of directors to bar investors from selling their shares when the net-asset value falls below $1.00.  

The SEC is requesting comments on the following issues:

  • Whether money market funds should no longer be permitted to use the amortized cost method of valuation or maintain a stable net asset value of $1.00;
  • Whether the SEC should require money market funds to have the ability to redeem investors in kind;
  • Whether money market fund boards should be required to identify the credit rating agencies (and a certain minimum number of those agencies) that will be used to evaluate the eligibility of securities for purchase and for monitoring of investments held in fund portfolios;
  • How the SEC can better address the risks posed to investors in money market funds when those funds invest in asset-backed securities;
  • A new exemptive provision that would permit a money market fund’s board of directors to suspend redemptions if it determines to liquidate due to having “broken” a dollar;
  • New minimum liquidity requirements that are more stringent for institutional money market funds than they are for retail money market funds;
  • A new requirement that money market funds adopt “know your investor” procedures to identify investors whose redemption requests could pose risks to the funds;
  • A new requirement that money market funds post their portfolio holdings on a Web site on a monthly basis; and
  • Requiring certain institutional investors to accept redemptions “in-kind” from money market funds.  

Click http://www.sec.gov/rules/proposed/2009/ic-28807.pdf to access the proposing release.

SEC Chairman Mary Schapiro and SEC Commissioners Luis Aguilar, Kathleen Casey, and Troy Paredes spoke at the open SEC meeting in Washington, D.C., about strengthening the money market framework.

Chairman Schapiro stated that the SEC is considering proposals that would strengthen money market fund regulation to help avoid the types of events experienced last fall, with the most significant proposal being the enhancement of the risk-limiting requirements of Rule 2a-7. Chairman Schapiro stated that the proposals would establish new liquidity requirements for money market funds, so that the funds are required to hold specified percentages of their assets in cash or highly liquid securities. In addition, the Chairman stated that the proposals would enhance the SEC’s ability to monitor money market funds.

Click http://www.sec.gov/news/speech/2009/spch062409mls.htm to access Chairman Schapiro’s full remarks.

Commissioner Aguilar started with a brief background of money market funds and the resiliency of funds under Rule 2a-7. However, the Commissioner noted that it was appropriate to revisit the safeguards of the Rule based on the events of last year and the continuing economic turmoil. The Commissioner continued his statements with an overview of the proposal, external and internal determinations that are in the current rule, the request for comments on removing references to credit ratings, and strengthening the quality of Nationally Recognized Statistical Rating Organization (NRSRO) ratings.

Click http://www.sec.gov/news/speech/2009/spch062409laa.htm to access Commissioner Aguilar’s full remarks.

Commissioner Casey noted that the onset of the financial crisis, the collapse of the Reserve Fund, and subsequent actions taken by Treasury and the Federal Reserve with respect to money market funds have led to questions about the safety and reliability of these funds and the regulatory requirements under which they operate. Commissioner Casey highlighted one issue of “grave concern” in Rule 2a-7—the continued reliance on NRSRO ratings. Commissioner Casey specifically stated that it would be a problem to give fund boards authority to designate a certain number of NRSROs that they must look to in evaluating the eligibility of portfolio securities under the rule and that they must determine annually issue ratings sufficiently reliable for that use. The Commissioner stated that we should be acting to reduce investor and regulatory reliance on credit ratings.

Click http://www.sec.gov/news/speech/2009/spch062409klc.htm to access Commissioner Casey’s full remarks.

Commissioner Paredes also discussed money market funds and their “essential function for investors and our capital markets” and that the goal of better ensuring the $1.00 stable net asset value of money market funds led the SEC to propose changes to Rule 2a-7. “The proposal goes to great lengths to reduce the risk that money market funds will break the buck. The proposed Rule 2a-7 amendments, for example, shorten portfolio maturities and impose new liquidity requirements. The amendments also would permit money market funds that have broken a buck to suspend redemptions to facilitate orderly liquidation.” The Commissioner expressed two “reservations” about the proposal: (1) the proposal eliminates entirely Second Tier securities as a category of investment for money market funds; and (2) in proposing certain portfolio disclosures, the release discusses and seeks comment on the possibility of requiring money market funds to disclose their market-based net asset value per share.

Click http://www.sec.gov/news/speech/2009/spch062409tap.htm to access Commissioner Paredes’ full remarks.