Lexington, KY - Two University of Kentucky professors suggest in a just completed study that the money market fund industry doesn’t need additional regulations.
David Blackwell, dean of the UK Gatton College of Business and Economics, and Kenneth Troske, senior associate dean of the college, conclude in a co-authored study released by the U.S. Chamber of Commerce that money market fund regulations, adopted in 2010 by the U.S. Securities and Exchange Commission (SEC) following the 2008 financial crisis, were more than adequate to reduce risk in this $2.5 trillion industry.
“The 2010 reforms were quite effective in addressing some concerns about money market funds. We didn’t see a lot of evidence suggesting we needed additional reforms,” said Troske, in a recent interview. “At this point, money market funds seem to have the liquidity necessary to deal with large increases in redemptions”
Redemptions allow shareholders in either a money market account or a money market mutual fund quick and easy access to their cash. Redemptions are available to shareholders on the same business day because they’re liquid investments, according to eHow Money. Money market redemptions are highly regulated by the SEC.
Blackwell says that during the financial crisis of 2008, many financial markets froze up. One in particular was money markets, which hold very short term securities, such as anything maturing in less than a year. They are usually viewed as safe investments. Money markets are generally priced at $1.00 a share and you will likely get a return on your principal, though unlike a bank deposit, it is not guaranteed.
The September 2008 failure of Lehman Brothers triggered losses in what’s called the Reserve Primary Fund. The Reserve’s shares fell to 97 cents, or in financial industry terms, “broke the buck.”
“That signaled to investors that something was seriously wrong,” explained Blackwell.
Breaking the buck triggered a run on all money market funds as frightened depositors withdrew about $310 billion from prime money market funds, or about 15 percent of assets, during that week in September of 2008, according to the President’s Working Group on Financial Markets.
“Investors were generally trying to get money out of things and into cash because of all the turbulence,” said Blackwell.
“After that, the SEC added additional regulations to force money market mutual funds to shorten their maturities and to reduce the credit risk in their portfolios. They also included disclosure requirements that made things more transparent,” added Blackwell.
Before the 2010 regulations, those funds were required to disclose their holdings only quarterly and not in a lot of detail. After the new 2010 regulations, they are required to report their holdings monthly and in greater detail.
“Now investors in those funds can see exactly what is happening,” reasoned Blackwell.
However, The SEC, the Federal Reserve and the Treasury Department all have been clamoring for even more regulations on these money market funds.
According to the report presented by Blackwell, Troske and their out-of-state college associates, the team examined whether redemptions from money market funds since the reforms have had any impact on the supply of funds in the commercial paper market.
“We used money market fund data filed with the SEC to examine changes in liquidity, credit risk, redemptions, and net cash flow and commercial paper data available from the Federal Reserve System to examine the impact of the MMF market on the CP market,” the report stated.
The report went on to say that “since the 2008 crisis, we observe a significant decrease in the credit risk of assets held by prime MMFs. They have shifted their portfolios from relatively higher-risk assets (such as commercial paper) to relatively lower-risk assets (such as Treasuries).”
The study also concluded that “the 2010 reforms required significantly more detailed disclosure of holdings and more frequent disclosures, now monthly, in addition to quarterly. The result of the dramatically increased transparency is that any investors can now obtain timely, accurate data on the risk of any fund in which they invest.”
Blackwell says additional regulations would be costly for the money market funds to implement. “There hasn’t been a clear study of the benefits. The cost needs to be more than offset by benefits to companies, consumers and the country as a whole. The regulators want to add more regulations to prevent the once-in-a-lifetime (financial) tsunami at great cost. I’m not convinced those regulations would prevent the next tsunami.”
“Kentucky investors should have even more faith in the safety and stability of money market funds,” Troske added.
But Troske reminds consumers that money market funds are an investment and not a bank deposit. They are not FDIC (Federal Deposit Insurance Corporation) insured. “You can lose money, but that has only occurred twice in the 40 year history of money market funds,” he said.
As for research coming out of UK’s Gatton College, Troske says “it’s is part of what we are supposed to be doing in the college.”