MMF investors bank on liquidity

The second of a two part series following plans to change money market fund regulation. 

Recommendations issued by the International Organisation of Securities Commissions last month are attempting to address the fear that MMFs are systemically important, and could be subject to runs in times of financial market turmoil.

Together with low yields and a reduction in viable counterparties, the possible new swathe of regulations set to cover money market funds is just the latest in a long line of worries for the industry.

Of the 2008 financial crisis IOSCO noted recently: “Although money market funds, which provide a significant source of credit and liquidity, did not cause the crisis, their performance during the 2007-8 financial turmoil highlighted their potential to spread or even amplify a crisis.”

Money market funds are being defined as ‘shadow banking’ products, an assertion disputed, in general, by the fund management industry, which claims MMFs are investment products.

Arlingclose senior client director Andrew Larkin thinks differently. “Our clients use them as a liquidity product, not for investment. They use them instead of call accounts.”

And therein lies the main beef that treasurers have with a potential move to a variable, or floating net asset value. If £1 today is worth 99p tomorrow a money market fund may no longer have a valid use as a liquidity product.

The issue is caught up in a number of other worries for treasurers. A reduction in the number of attractive counterparties means that less banks are available for depositing funds. A high risk environment and high profile losses such as those in the Iceland case make general collective fund investment an unlikely home for treasury funds. Holding MMFs themselves is potentially more subject to duplication of counterparties if more than one is held, as they have reduced holdings down to mainly highly-rated core European paper.

Notable proposals from IOSCO were:

• holding back shareholders funds for a period after withdrawal

• increasing capital requirements for MMF groups

• setting up an insurance fund

• changing CNAV to partial VNAV

Treasury consultants have been quick to issue guidance. It is important for treasurers to note that a final position on the recommendations is unlikely to be reached until late 2013, said Dan Willson, assistant director at Sector. A grandfathering period for funds to alter their positions may not be completed until 2014.

Clients’ greatest fear is that of the unknown, added Willson. “Our biggest role is about education,” he noted, “helping clients to understand the risks. If you have an AAA-rated money market fund that is toward the bottom of the risk scale. These funds are not there to push the envelope, they are looking for strong security and high liquidity and the yield is a by-product of that.”

Arlingclose is also keeping a watching brief. “It is probable that most, if not all, of the solutions would cause an increase in the funds’ cost base, the corollary of this being a reduction in yield for investors,” explained Larkin. “The challenge for both the industry and regulators is forming a plan that keeps investors content that the funds will be able to maintain their objectives of security, liquidity and yield. Whilst investors may be able to stomach lower returns, many may shy away if the product’s liquidity characteristics are compromised.”