Since the financial meltdown of 2007 and 2008, regulators globally have sought to understand the conditions that led to the unprecedented disorder and put in place controls to prevent a similar breakdown in the future.
However, the overbearing desire to restrict certain elements of the market has the potential to lead to disproportionate and disfiguring legislation.
Money market funds (MMFs) are at the simple end of the investment management spectrum. They are the ‘brown bread and water’ among the smorgasbord of investment products available.
They are low risk, unleveraged and low-yielding; however, they are also quite large. Moreover they are liquid – in every sense. They act as an early indicator for concerns developing in other parts of the broader financial market and react speedily if investors are worried.
At the end of 2012, MMFs in Europe had €1 trillion of assets under management. This compares to $2.7 trillion (€1.5 trillion) in the US.
There is little doubt that the formal European regulations for MMFs should be strengthened. In the US, MMF follow rule 2a-7, which was reinforced post-crisis in 2010.
Europe currently has the guidelines issued by the European Securities and Markets Authority, but these are not as prescriptive as 2a-7 and still blur the definition of what constitutes a money market fund.
The vast majority of constant net asset value MMFs in Europe also adhere to the IMMFA Code of Practice – a voluntary code of industry best practice which defines limits in many of the same categories as 2a-7.
In considering how we might further strengthen MMF regulation, we need to focus on this simple balance: How to maintain the utility of the product to investors, while removing any remaining systemic susceptibility.
The squabbling about the accounting convention constant net asset value (CNAV) or variable net asset value (VNAV), has been an unwelcome side show.
A run happens because investors become nervous about the assets in the fund and it can occur in all sorts of funds; in CNAV or VNAV, in bond funds, equity funds or in banks themselves. Prescribing a conversion from CNAV to VNAV achieves nothing in terms of improving systemic stability.
In seeking a good balance, prescribed levels of liquidity, limited weighted average maturity and weighted average liquidity, maximum asset maturity and enhanced disclosure and reporting all make good sense.
What does not make sense is the rumoured proposal to have fund managers put aside a 3% cash reserve to make good any asset losses. This would fundamentally change the nature of the relationship between the investor, the fund manager and the fund. Instead of looking at the credit exposure across the assets in the fund, the focus would shift to include the credit of the fund manager.
We should also appreciate that the credit crunch itself has stimulated demand for MMFs. Investors have a much keener awareness of the fallibility of individual bank names. But rather than have vastly expanded credit analysis and treasury teams to allow them to diversify their exposure and handle more complicated operations, they outsource this work to a MMF where they also enjoy the benefit of pooled liquidity.
As the regulatory process grinds on, the primary aim must be to maintain the utility of these products to investors, who rely on MMFs as a low-risk instrument in which to store their cash. Regulators must take the opportunity to allow investors access to products, which meet their needs in order to help facilitate a return to growth.
Susan Hindle Barone is the secretary general of the Institutional Money Market Fund Association (IMMFA)
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