Alert January 25, 2011

ICI Files Comment Letter on President’s Working Group Reform Options for Money Market Funds

On January 10, 2011, the Investment Company Institute (the “ICI”) filed a detailed letter (the “ICI Letter”) with the SEC commenting on the October 2010 Report of the President’s Working Group on Financial Markets on Money Market Fund Reform Options (the “Report”).  The Report was discussed in the November 2, 2010 Alert.  The ICI Letter strongly endorses the option to establish a private liquidity facility (the “Liquidity Facility”) for money market funds (“MMFs”) to support MMFs’ liquidity needs, particularly in times of market turmoil.  In the ICI Letter, the ICI reiterates its objection to requiring a MMF to float its net asset value (“NAV”) and, in general, states its objection to the other reform options in the Report.  The ICI Letter provides a detailed description of the mechanics and funding of the Liquidity Facility.

The Liquidity Facility would be formed as a state-chartered bank or trust company initially capitalized by member funds and their sponsors.  It would only be available to prime MMFs (i.e., MMFs other than tax-exempt, government or Treasury MMFs), and all prime MMFs would be required to participate in the Liquidity Facility.  Under normal conditions, the Liquidity Facility would generally invest in U.S. Treasury and agency bills.  However, during times of unusual market distress, the Liquidity Facility could purchase high-quality, short-term securities at amortized cost from prime MMFs, allowing MMFs to meet redemption requests while maintaining a stable $1.00 NAV even if markets for certain holdings were frozen.  The ICI believes that the Liquidity Facility would “help protect the broader money market by allowing funds to avoid the need to sell portfolio instruments into a challenging market.”  The ICI Letter and accompanying Appendix provide details on, among other things, the permissible assets and asset concentration limits of the Liquidity Facility during normal and “liquidity operations” conditions. 

A MMF could access the Liquidity Facility only if it demonstrated a liquidity need after exhausting a substantial portion of the large liquidity buffer each MMF must maintain under SEC rules implemented in 2010.  In addition, a MMF that had already “broken the buck” would not be able to access the Liquidity Facility.  Moreover, the ICI Letter imposes a number of specific conditions with respect to the creation of the Liquidity Facility.  In particular, as referenced above, the ICI reiterated its opposition to a floating NAV requirement, noting that MMFs’ ability to continue to maintain a stable $1.00 NAV is a condition to the creation of the Liquidity Facility.  The ICI Letter also describes other conditions pertaining to the cost of the Liquidity Facility and the interplay with bank regulatory requirements for banks that sponsor money market funds.

The Liquidity Facility would be capitalized through a combination of (1) initial contributions from each sponsor of a MMF participant in the Liquidity Facility, with the amount of each sponsor’s contributions based on its sponsored MMFs’ assets under management provided that no sponsor would contribute more than 4.9% of the Liquidity Facility’s initial capital or less than $250,000, and (2) ongoing commitment fees from participating MMFs.  The ICI Letter indicates that the initial commitment fee would be for 3 basis points per year on the MMF’s assets under management.  The ICI Letter also indicates that this fee rate could be increased as yields on MMF instruments increase and discusses the anticipated capacity of the Liquidity Facility over various time periods.  In its third year, the Liquidity Facility would begin to issue time deposits (e.g., certificates of deposits) to third parties to further build its capacity.  These time deposits would be designed to be “eligible securities” for purchase by MMFs.  The Liquidity Facility would also have access to the Federal Reserve discount window, according to the ICI Letter.  The ICI Letter specifically notes that the Liquidity Facility will not provide credit support (e.g., by purchasing distressed instruments); instead, it is intended only to meet the liquidity needs of participating prime MMFs.  In this regard, as noted above, the ICI Letter includes limitations on the types of instruments that the Liquidity Facility would purchase, as well as limits on portfolio construction.

The ICI Letter also proposes that the SEC adopt a new rule mandating that intermediaries, such as broker-dealers, provide information to MMFs to facilitate MMFs’ ability to comply with “know your investor” requirements.