(PUB) Morningstar FundInvestor

August 2 014

Morningstar FundInvestor

15

Since September 2008 , when Reserve Primary Fund sparked a panic by “breaking the buck” when its Lehman notes plunged in value, the SEC has sought changes that would prevent such a calamity from occurring in the future. The delivery was a laborious, politically charged process. The mutual fund industry liked money market funds just fine the way they were, banks wanted them gutted, and SEC staffers and politicians were caught in the middle. It took many iterations to arrive at yesterday’s barely accept- able compromise, which passed by the minimum margin of 3 to 2 . As the SEC did not publish the new rules until after they were ratified, media coverage has been some- what muddy. Several reports seem to suggest, as does the SEC ’s press release, that the rules apply only to institutional funds. Not so—the most notable modification, requiring some money funds to float their net asset values rather than fix the price at a constant $1 . 00 , is indeed for institutional funds only. But provisions for liquidity fees and redemption gates apply to all funds, both institutional and retail. If a money-fund’s holding can be easily and readily converted to true cash, the SEC designates that holding as being either a “daily liquid” or “weekly liquid” asset. Should a fund run low on these liquid securities, such that its weekly liquid assets are calculated to be less than 10% of its total assets, then under the new rules the fund must impose a liquidity fee of 1% on redemption requests. Effectively, those redeeming will receive 99 cents on the dollar, with the remaining penny staying in the fund as a payment to existing shareholders. A fund may escape this provision only if its board of directors, including a majority of independent directors, over- rides the automatic imposition of the fee. Optional Liquidity Fees If a fund’s weekly liquid assets are calculated to be less than 30% of its total assets, then that fund may For Retail and Institutional Funds Required Liquidity Fees

impose an optional liquidity fee. The optional fee, for reasons that remain unclear, would be 2% —double that of the required liquidity fee when the fund breaches the 10% liquidity threshold. Once again, this fee must be supported by the fund’s board of directors, including a majority of its independent directors. Optional Redemption Gates With funds that have less than 30% in weekly liquid assets, fund boards (including, you guessed it, the majority of independent directors) may also vote for the stronger measure of shutting down redemptions altogether. Such gates, as they are called, can be imposed for no more than 10 days within a given 90 - day period. When activated, though, they have the effect of completely cutting off all transfers, so that shareholders wishing to gain access to their money funds for any reason are shut down until the gate is lifted. Floating the NAV may complicate an institution’s accounting or tax situation, thereby pushing it toward other cash options, but it doesn’t alter a money fund’s basic investment characteristics. Neither does calcu- lating an NAV with more decimals, imposing liquidity fees, or creating a redemption gate. The latter two items will no doubt prove irksome when implemented, but they are unlikely to be so common as to actively discourage money-fund investors. In short, money funds’ future looks much the same today as it did a month ago. The funds are currently unattractive to both investors and their sponsor- ing fund companies (which often find themselves rebating management fees to support the funds’ meager yields) because short-term interest rates are low. When rates rise, and thereby boost money fund yields, the new legislation is unlikely to stand in the way of sales. Unfortunately, it also will not do more than slow future market panics. œ The fear of the event outweighed the event itself. These changes are modest.