Treasury Secretary Tim Geithner has urged the Financial Stability Oversight Council to use its authority under section 120 of the Dodd-Frank Act to recommend that the SEC proceed with money market fund reform. To do so, he said in a letter to FSOC, the Council should issue for public comment a set of options for reform to support the recommendations in its annual reports. The Council would consider the comments and provide a final recommendation to the SEC, which, pursuant to the Dodd-Frank Act, would be required to adopt the recommended standards or explain in writing to the Council why it had failed to act. The Secretary has asked staff to begin drafting a formal recommendation immediately and is hopeful that the Council will consider that recommendation at its November meeting.
The proposed recommendation should include the two reform alternatives put forward by Chairman Schapiro, request comment on a third option, and seek input on other alternatives that might be as effective in addressing structural vulnerabilities.
Option one would entail floating the net asset values (NAVs) of the funds by removing the special exemption that allows them to utilize amortized-cost accounting and rounding to maintain stable NAVs. Instead, they would be required to use mark-to-market valuation to set share prices, like other mutual funds. This would allow the value of investors’ shares to track more closely the values of the underlying instruments held by money market funds and eliminate the significance of share price variation in the future.
Option two would require them to hold a capital buffer of adequate size (likely less than 1 percent) to absorb fluctuations in the value of their holdings that are currently addressed by rounding of the NAV. The buffer could be coupled with a “minimum balance at risk” requirement, whereby each shareholder would have a minimum account balance of at least 3 percent of that shareholder’s maximum balance over the previous 30 days. Redemptions of the minimum balance would be delayed for 30 days, and amounts held back would be the first to absorb any losses by the fund in excess of its capital buffer. This would complement the capital buffer by adding loss-absorption capacity and directly counteract the first-mover advantage that exacerbates the current structure’s vulnerability to runs.
Option three would entail imposing capital and enhanced liquidity standards, coupled with liquidity fees or temporary gates on redemptions.