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Invesco submits comment letter to Financial Services Oversight Committee
Comments on proposed money market reforms due in February
On Nov. 13, 2012, the Financial Stability Oversight Council (FSOC) voted to propose three recommendations for additional money market reforms1:
- Floating net asset value (NAV) — Removes the special exemption that currently allows money market funds (MMFs) to use amortized cost accounting and penny rounding to maintain the $1 stable NAV.
- NAV buffer and minimum balance at risk — Retains the stable NAV but would require an NAV buffer of up to 1% of assets to absorb fluctuations in the value of MMFs' portfolio securities, combined with a requirement that 3% of a shareholder's highest account value be made available for redemption on a 30-day delayed basis.
- NAV buffer and other measures — Retains the stable NAV but requires a risk-based NAV buffer of 3% to provide explicit loss-absorption capacity that could be combined with other measures, such as more stringent investment diversification, increased minimum liquidity levels and more robust disclosure.
The recommendations were issued for a 60-day public comment period, which was subsequently extended to Feb. 15, allowing short-term market participants to respond to the proposals.
Invesco submits a comment letter to the FSOC
As a leading sponsor of MMFs with more than 30 years of experience in the industry, $58.4 billion in assets under management which include 12 MMFs operated in compliance with Securities and Exchange Commission (SEC) Rule 2a-72 , Invesco believes it is important to address the recommendations put forth by the FSOC, which directly affect the millions of money market shareholders whose financial needs we serve.
On Feb. 15, Invesco Ltd. submitted its comment letter to the FSOC (http://www.invesco.com/pdf/fsoc.pdf). In it, we conveyed our belief that US MMFs have already implemented significant reforms as part of the amendments to Rule 2a-7 in 2010 that focused on improved liquidity and credit quality. As a result of these reforms, we believe MMFs are among the most transparent investment vehicles, with holdings available publicly on a regular basis so investors know what the funds hold and the quality of those holdings. Having said that, any further reforms to MMFs should be undertaken with extreme caution and only where it can be demonstrated that the changes would effectively address concerns of systemic risk without jeopardizing the utility or fundamental nature of MMFs as an investment product.
Specifically our comment letter addressed the following issues:
- Further changes to Treasury and government MMFs appear unnecessary, as these funds have never experienced significant investor runs, even during the 2008 financial crisis, the eurozone debt crisis and the downgrade of US sovereign debt.3 Similarly, municipal MMFs have been relatively unaffected by investor runs during periods of market turmoil. Also, these funds generally carry high levels of liquidity, well in excess of the weekly liquidity requirements of the 2010 reforms.
- The minimum balance at risk provision (MBR) could jeopardize the continued existence of MMFs by changing their fundamental nature and undermining their utility to investors, in addition to imposing onerous administrative burdens on MMF sponsors and investors. By remaining in effect at all times, even when there is sufficient liquidity available to fund redemptions, MBR could undermine the founding and defining business principal of MMFs – full daily liquidity. Restricting liquidity unnecessarily could significantly alter the usefulness of the product4, driving MMF investors into unregulated, less transparent products, thereby increasing systemic risk. Moreover, we do not believe the MBR would be effective in deterring runs, as investors may simply view the holdback as a cost of doing business and nevertheless choose to redeem in full.
- We do not believe that a floating NAV would serve as an effective deterrent to runs on MMFs as evidenced by the performance of US ultra-short bond funds, which experienced substantial outflows during 2007 and 2008, and French floating NAV dynamic money funds ("tresorerie dynamique" funds), which saw assets decline approximately 40% between July and September 2007.5 The stable $1 NAV has been a defining attribute of MMFs, and in its absence investors have conveyed that they are likely to seek alternative instruments that fall outside the regulatory framework currently in place for US-registered MMFs, making it harder to monitor risk.
- Proposals to impose an artificial distinction between "retail" and "institutional" investors are largely misguided. The rationale for the distinction is rooted in the observation that during the 2008 financial crisis most of the redemptions from prime MMFs were by large investors. However, in practice, creating this distinction between retail and institutional would be difficult and onerous, and its application would be costly and largely arbitrary due to the structure of the MMF business. We also believe the distinction between retail and institutional behavior is dated, failing to reflect the impact the 2010 reforms – and particularly increased transparency – in changing underlying investor behavior.
- Capital buffer proposals are not feasible because there would be no practical way to fund the buffer in the current low interest rate environment. In addition to the accounting difficulties created by securing financing for capital buffers through fund sponsors, the funds themselves and/or third parties (via subordinated MMF interests) in this type of environment could fundamentally change the competitive landscape for MMFs by reducing the size and diversity of the industry. Moreover, we do not believe that capital buffers would be effective in preventing a run, since the liquidity requirements outlined under the 2010 reforms (minimum 10% of assets maturing within one day and minimum 30% of assets maturing within seven days), have been sufficient to accommodate the highest redemption period since 2010, when redemptions peaked at 3.5% for prime funds during the week Aug. 2, 2011.6
- If, however, regulators determine that additional MMF reform is necessary, we urge consideration of a redemption gate that an MMF board could activate. Temporary, across-the-board suspensions of investors' ability to redeem have proven to be an effective method of deterring runs. The MMF board of directors could be given the discretion to impose redemption restrictions during periods of market stress, as necessary, based on factors such as liquidity levels and quality of securities. These redemption gates should be activated if a prime MMF's weekly liquid assets fall to one-quarter of the required level (i.e., 7.5%) coupled with a liquidity fee.
What's next?
Now that the comment period has concluded, the FSOC will review and analyze the public comments and may recommend that the SEC implement specific regulations by June of this year. The SEC will then have 90 days to adopt the proposal or explain why it cannot. During a speech he gave at the US Chamber of Commerce on Jan. 16, SEC Commissioner Daniel Gallagher7 expressed his expectations of an SEC proposal for reform before the end of March that would be open for a public comment period. No proposals have been released yet. In the event the SEC releases its own proposal to reform money market mutual funds, the FSOC has stated that it will stop its current process. As events unfold, we remain committed to keeping you informed of progress on money market reforms.
An investment in a money market fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency. Although a money market fund seeks to preserve the value of your investment at $1.00 per share, it is possible to lose money by investing in such a fund.
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