Cash-Market Funds Face New Guidelines After Covid Stumble. This is What Might Occur.

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While the race in cash At the start of the pandemic, investors pulled cash from money market funds that invest in short-term corporate and municipal debt. That has regulators again concerned about the stability of the sectorand they are considering further rule changes to support them.

In March 2020, investors withdrew $ 125 billion from high-quality funds investing in short-term corporate bonds and $ 9 billion from tax-free money market funds, US officials wrote in a December report. Investors pulled less cash on an absolute basis than they did during the 2008 financial crisis, when a huge prime fund “broke the money” when its share price fell below $ 1. However, with the industry’s asset base lower in 2020, withdrawals made an even larger proportion of the industry’s total size.

Although the market did not repeat itself in 2008, investor exit exacerbated the pressures in the short-term corporate and local finance markets and prompted the Federal Reserve to do so step in and create a facility dedicated to money market funds. This follows two rounds of regulatory efforts to prop up money market funds after the financial crisis.

After renewed burdens last year, officials like Fed Chairman Jerome Powell are now discussing the prospect of new rules to limit the need for future intervention. “We are looking for ways – and people around the world are looking for ways – to make these vehicles resilient so that they don’t have to be backed by the government when market conditions are tough,” he said at the central bank press conference on April 28th . April.

As the regulatory process progresses, strategists join in

Bank of America

hinder the likelihood of different changes.

US Officials suggested a list of 10 Possible reforms in their December report and in a May 6 release are categorized by analysts at the bank into three main categories.

The first group would ease the threshold at which funds would have the ability to penalize redemptions from investors. After the stress on money market funds during the financial crisis, regulators put in place a rule that money market funds can charge fees or goals if their cash equivalents fall below 30% of their portfolio.

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One of the regulators’ proposals would allow money market funds to collect gates or fees if the board of directors decides that it is in the best interests of the fund, regardless of the size of its cash. This idea was popular with money market fund managers who responded to the government report, Bank of America found. All 14 respondents supported the idea.

The second set of proposals is to encourage either fund management companies or investors to pay to offset the risk of future runs. For example, officials are considering new rules detailing exactly when and how a fund’s parent company would be required to support their funds, for example by providing liquidity to cover investor withdrawals.

Third, regulators are considering a group of ideas to reduce the likelihood that investors will withdraw their money in the first place.

One of the options in this category would be a new rule that would reduce the incentive for an investor to try to get their money out of a fund first. In essence, the rule would introduce a delay before an investor could cash out a certain portion of their stock. This means that an investor who withdrew prematurely would still be involved in the losses if a fund ran.

While most money market fund managers didn’t endorse the idea, Bank of America said “it has some potential” although it “could make it less attractive to invest in top quality or tax-exempt money market funds.”

Another proposal could fundamentally change the expectations of individual investors in certain types of money market funds: regulators suggested allowing the price of retail investor stocks to fluctuate or, under certain conditions, move their prices up and down with market conditions instead of staying at 1 USD per share. This would reflect a rule change from the post-financial crisis, when officials introduced rules that allowed stock prices to float for institutional investors’ stakes in high-quality, tax-free money market funds.

Of course, these rules would only apply to money market funds that invest in short-term corporate or municipal debt. So it seems possible that this set of rule changes, like the last round of reforms, will continue to push investors into money market funds that invest in US government bonds.

In short, “there are changes coming in high-quality, tax-exempt money market funds,” wrote Bank of America, “which we believe will undermine investor interest in these funds.”

Write to Alexandra Scaggs at alexandra.scaggs@barrons.com