SEC Toughens Money-Market Fund Rules: Floating NAV Addresses Systemic Risks

New rules approved by the Securities and Exchange Commission (SEC) today on whether net asset values (NAVs) for money market funds must float or remain fixed closely track what CFA Institute suggested to the SEC in its letter from September 2013.

Under the new rules, NAVs for institutional prime money-market mutual funds will now have to allow their share prices to float, reflecting the changing value of portfolio securities. By comparison, money-market funds for retail investors and funds investing in government securities can continue to use so-called “fixed” NAVs. In its letter to the SEC, CFA Institute expressed ultimate support for floating NAVS as being consistent with the principles of fair value accounting (see our issue brief for more). It also urged the SEC to exempt retail and government securities funds from the floating NAV requirement due to the significantly lower potential for such funds to experience investor runs that might lead to systemic failure.

The new rules will come into effect over a two-year transition period and are intended to address perceived systemic risks posed by money-market funds in times of stress, especially to the extent that customer sell orders lead to a spiral of portfolio liquidations that potentially freeze the wholesale funding markets. The SEC also announced that the US Treasury Department and Internal Revenue Service would soon propose new rules to simplify tax accounting treatment for investors in variable net asset value (VNAV) money-market funds, which opponents to reform had cited as a significant burden.

The SEC rules also would allow boards of directors for institutional and retail money market funds — government securities funds would be exempt — to impose redemption gates and/or liquidity fees at a lower threshold of the proportion of funds’ liquid assets than previously proposed. The intent is to slow the potential for runs, but not to precipitate runs by those who predict imposition of gates. The element of discretion on the part of fund boards will create some dilemmas for directors who must consider their fiduciary duty to their funds’ shareholders as well as the systemic implications of their actions. On balance, it is hard to be optimistic that introducing more uncertainty in times of stress would ultimately be useful.

European policymakers have expressed keen interest in the SEC’s new money-market fund rules as the European Parliament will reexamine its own money-market fund reforms after this past May’s elections. The European approach thus far has been to propose that funds either maintain capital buffers or switch to floating net asset values, so there is potential for different regulatory approaches across the Atlantic.

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