On October 15, treasurers investing in prime money market funds will face the consequences of the SEC’s 2a-7 reform. Perhaps the most talked about impact of this legislated reform is the introduction of a floating net asset value. In fact, in the 2016 AFP Liquidity Survey, respondees were not only talking about it, but suggesting they would abandon prime funds altogether for the perceived safety and liquidity of government funds or bank products. While other surveys have seen softened attitudes about how much cash will be reallocated away from prime funds, talking about shifting away from prime money funds and actually doing it are different things.
Should there be significant outflow to government funds, the differential in yields between prime and government funds will widen. This would challenge another finding of the AFP survey, which found only 2 percent of respondents citing yield as a driver for where they park their excess cash. It is easy to say yield doesn’t matter when there isn’t much to chase. However, when a comparitively higher rate of return is on offer, then perhaps some of those respondents will change their tune.
Yield aside, that same AFP survey question also cited that 68 percent favor security and the remaining 30 percent prioritize liquidity when making choices to invest operating cash. While no one would dispute these important factors, it is worth investigating the impact that money market fund reform has on both priorities.
In addition to the floating net asset value, MMF reform also allows for redemptions fees and gates to be employed at the fund’s discretion. Although the potential is there for liquidity to be interrupted, it is unlikely that gates would be implemented. Many fund providers argue that gates temporarily halting fund redemptions would not have been required in 2008, which if there was a time in recent history that one would expect to see such behaviour it would have been during the onset of the credit crisis.
For those that prioritize maintaining liquidity, it can be argued that prime MMFs continue to meet that need—and potentially with an added bonus of additional bps for at least the initial months after legislation comes into effect.
It should not be surprising that most treasury professionals surveyed for the AFP Liquidity Survey suggested that security was their biggest priority. After all, treasury’s mandate is to protect an organization’s financial assets. So if the value of the money fund decreases after you invest cash, it is possible that you could see an implied negative return on cash. Most corporate investment policies don’t allow for negative yield (according to the same AFP survey) so this is a legitimate concern.
That being said, the composition of prime MMFs won’t suddenly become more risky on October 15 than the days leading up to it. In fact, an argument could be made that fund companies may choose even more conservative underlying assets to smooth the movement of the fund’s net asset value. And, to be fair, we are still talking about T-bills, repos, and short-term corporate paper—products that are often permitted within a corporate investment policy.
While it is expected that there will be some movement in prime fund values, it remains unlikely that corporates will lose part of their investment through a prime fund.
So what is all the fuss about?
Even if concerns over liquidity and security are largely put to rest, there remain logistical issues that can be a pain for treasury teams.
First, and foremost, there is new information to track. Whether managing via spreadsheets, within trading portals, or via a treasury management system, cash managers will now be tracking price per share/unit and daily gains and losses (unrealized). Currently tracking money funds is easy as cash managers track holdings and daily interest factors. Going forward, the greater information and complexity of calculations requires more time and effort—something that most treasury teams do not have in abundance.
Secondly, there is the matter of unrealized gains and losses. Anyone familiar with the introduction of FAS133 will recall the advent of mark-to-market calculations and posting ‘on paper’ gains and losses to either income or balance sheet accounts. While calculations for MMFs will not be nearly as complex as hedge accounting, there will be decisions that need to be made on how to document unrealized gains/losses and how to account for them. Regardless of how this is done, extra reporting will be required, meaning more time and energy must be devoted to managing prime funds.
For those organizations that lack straight-through processing and treasury automation, these additional challenges could easily be enough to dissuade the use of prime money funds. That being said, those treasurers who have made good choices in their treasury systems (i.e. the few that are actually ready for October 15) will find for the most part that the fuss is much ado about nothing.
Bob Stark is vice president, strategy for Kyriba. He is speaking about cash forecasting at the 2016 AFP Annual Conference.