Image via Wikipedia
This article originally appeared in the Mar. 12, 2012 issue of Forbes magazine.
Chairman Mary Schapiro of the Securities & Exchange Commission is proposing two money market fund reforms to prevent another disaster like that which almost destroyed the industry in 2008. In September of that year the Reserve fund family, which pioneered money market funds, took a hit to net asset value when Lehman Brothers went belly-up. Suddenly the sacred dollar-a-share price was shattered with one of its funds. The “breaking of the buck” led not only to investors pulling their cash out of that fund but also created a panic in the entire industry. Within days $300 billion had been pulled out, and a critical source of short-term corporate financing was in dire straits. To stem the panic the Feds briefly guaranteed all money market funds.
Schapiro wants to give the industry two options. One would have the funds share asset value—all funds currently fix asset value at $1—based on the actual market prices of their underlying short-term assets. In other words, the alleged fiction of the fixed dollar value would be stripped away. The second choice would require funds to hold reserves, as banks do for their deposits, and give funds the right to suspend redemptions if there are sudden, significant withdrawals.
Alas, neither of these measures would have prevented the 2008 panic. Money funds would still have experienced a run by investors. Under such emotional circumstances a 5% reserve would not have reassured investors. And the prospect of investors having limited access to their funds would have fed fears, not eased them. The floating share price wouldn’t have reassured people, either—many would still have wanted to pull out their cash and plop it in a bank whose deposits are explicitly guaranteed by the government.
Moreover, Schapiro’s capital reserve measures would cripple the industry with unnecessary costs.
So what should be done? A cigarette-is-hazardous-to-your-health kind of warning in bold language on a prospectus to remind investors that these things are not backstopped by Uncle Sam would be useful.
But more helpful would be for Washington to stop creating panics in the first place, as it does when it trashes the value of the dollar and subsidizes bubbles, as happened with housing.
As for the industry idea—hooted down a year ago—of having access to the Fed’s discount window in a crisis, it could be revived with this proviso: The Federal Reserve would lend on the basis of sound collateral but at a penalty interest rate, with the companies that issue money market funds eating the loss. That prospect would inhibit most of them from reaching for yield the way the Reserve Primary fund did with the Lehman paper in 2008.
For more previous blogs see: Steve Forbes
