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Effective May 5, a number of fundamental changes have occurred to the guidelines under which money market funds (MMFs) operate. In order to improve the liquidity, safety, credit quality and transparency of MMFs, the Securities and Exchange Commission (SEC) has instituted a number of new rules concerning the maturities of securities in a fund, the types of securities in a fund, the amount of liquidity in a fund, and how the holdings of the fund and the market value of those securities are to be reported to the public.
WAM NOW 60 DAYS
One of the biggest changes for MMFs is that the weighted-average-maturity (WAM) of a fund must now be 60 days or less. Previously, the rule had been 90 days or less. The advantage of a shorter WAM is that the likelihood of a fund breaking the buck (being worth less than a stable net-asset-value, or NAV, of $1) decreases. As with most things in life, this additional safety comes at a cost. By shortening the maximum WAM, there is a reasonable probability that the weighted-average-yield (WAY) of MMFs will decrease on a relative basis, all else being equal. As fewer longer-dated securities are purchased for a fund, the consequence of shortening the WAM probably will be a lower WAY.
NEW MATURITY RULES
The new rules stipulate that a fund must have 10 percent of its assets maturing in one day, and 30 percent of its assets maturing within seven days. The goal behind these more stringent liquidity rules is to provide investors with greater protection in the event of a market disruption. To maintain these levels of liquidity, a fund probably will have to purchase a higher level of short-dated securities with a corresponding lower interest rate -- the result being the funds will be more liquid but lower yielding. In our current low interest rate environment, these changes to MMFs might not have a significant immediate impact for investors.
SHADOW NAV WILL BE PUBLISHED
One change that corporate investors must be concerned about in the near future has to do with the public disclosure of a fund's "shadow" NAV. The shadow NAV is the mark-to-market valuation that a fund is required to calculate for each security it owns, and that information is reported to the SEC. Beginning Dec. 7, 2011, MMFs will be required to publish their shadow NAV with a 60 day delay. So the first public disclosure of a fund's shadow NAV as of November 30, 2010, will be on February 7, 2011.
What will be of importance to corporate investors is whether they are prepared to defend and explain why their organization owned a MMF that potentially broke the buck. Now that the shadow NAV will be publically disclosed, albeit on a delayed basis, will investors be prepared or even willing to be exposed to the possibility of owning a MMF that was worth less than $1? This is the question that investment managers at organizations must ask themselves now as to not be caught unprepared when this rule goes into effect.
The prudent investor should consult with their accounting, legal, tax, and reporting entities sooner rather than later to determine if there is a risk, and whether it's worth taking.
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