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: Jim Hamilton's World of Securities Regulation

By Jim Hamilton

SEC Amends Money Market Fund Rules

The SEC has amended the rules for money market funds and SEC Chair Mary Schapiro said the new rules are only the beginning. The SEC is continuing to consider more fundamental changes to the structure of money market funds, including a floating net asset value, real time disclosure of shadow net asset values and a private liquidity facility for money market funds to use in times of market stress.

The amendments to the money market fund rules were developed as a result of the financial crisis of 2008 when the Reserve Primary Fund "broke the buck." The SEC conducted a full-scale review of the money market fund regulatory regime and drafted rules to improve liquidity, increase credit quality and shorten maturity limits.

The rules will require money market funds to have a minimum percentage of their assets in highly liquid securities which can be readily converted into cash to pay redeeming shareholders. For taxable money market funds, the rules impose a new requirement that at least 10% of the assets must be in cash, U.S. Treasury securities or securities that convert into cash within one day. All money market funds must have at least 30% of their assets in cash, U.S. Treasury securities, government securities with remaining maturities of 60 days or less or securities that convert into cash within one week.

The rules impose new restrictions on the purchase of illiquid securities. The current limit of 10% of illiquid securities in a fund's portfolio has been decreased to 5%. The definition of illiquid securities has been redefined to mean securities that cannot be sold or disposed of within seven days at carrying value.

The rules also create new limits on the acquisition of lower quality, or second tier securities. Funds may not invest more than 3% of their assets in second tier securities, down from the current 5% limit. Funds may not invest more than ½ of 1% of their assets in second tier securities issued by a single entity. The current limit is the greater of 1% or $1 million. Funds will also be restricted from buying second tier securities that mature in more than 45 days, rather than the current 397 days.

The new rules shorten the average maturity limits for money market funds. They will restrict the maximum "weighted average life" maturity of a fund's portfolio to 120 days and the maximum weighted average maturity of a fund's portfolio to 60 days.

Funds will be required to develop procedures to identify investors whose redemption requests may pose a risk to the funds in order to anticipate the likelihood of large redemptions. Fund managers will have to test their funds' ability to maintain a stable net asset value per share during events such as interest rate changes, higher redemptions and changes in the credit quality of their portfolios.

Commissioner Kathleen Casey, who voted against the measures, was particularly critical of their continuing reliance on credit ratings which she said further embeds the use of such ratings and is at odds with the lessons from the recent crisis. Funds will have to designate at least four nationally recognized statistical rating organizations each year whose ratings the board considers reliable. However, funds must continue to perform an independent credit analysis of every security purchased.

Money market funds will have to post their portfolio holdings on their Web site each month and keep it there for at least six months. Funds will report detailed information to the SEC each month about their holdings which will be available to the public after 60 days.

The rules will require that all money market funds be able to process purchases and redemptions electronically at a price other than a dollar per share. Fund boards will be permitted to suspend redemptions if a fund is about to break the buck and chooses to liquidate. The SEC must be notified when a fund intends to rely on this rule.

Full post as published by Jim Hamilton's World of Securities Regulation on February 03, 2010 (boomark / email).