The Buck Is Beginning to Break

Investors in money market funds are generally under the assumption that those funds would always maintain a $1.00 NAV (net asset value). Well, investors should lose that assumption and prepare themselves for funds beginning to ‘break the buck.’ Do not panic, but let’s review developments in this $3.8 trillion sector of the market.

When markets were seizing up last September upon the failure of Lehman Bros., the U.S. Treasury provided a temporary backstop of money market funds so they would not break the buck and cause a “run on the fund.” Here is the Treasury statement from last September: Treasury’s Temporary Guarantee for Money Market Funds.

From that site, you will see links to other Treasury announcements on this topic. One of those links is Frequently Asked Questions About Treasury’s Temporary Guarantee Program for Money Market Funds. I strongly recommend investors review these FAQs. I specifically highlight the question regarding funds’ ‘breaking the buck.’

What if another fund in an investor’s fund family breaks the buck before this program starts? Is the investor covered?

The program provides a guarantee on a fund-by-fund basis up to the amount of shares held as of the close of business on September 19, 2008. The performance of a different fund, even one in the same fund family of the investor’s fund, doesn’t affect the investor’s fund’s eligibility. Investors should contact their fund to determine if their fund participates in the program.

The temporary guarantee was extended on March 31, 2009 as highlighted by this Treasury announcement: Treasury Announces Extension of Guarantee for Money Market Funds.

Well, investors should prepare themselves for this guarantee of money market funds to end and that certain funds will begin to ‘break the buck.’ One does not need to be a savant to see this development in a recent release from SEC chair, Mary Schapiro. Here is the full SEC Statement on this topic.

Let’s address a few critically important points . . .

In regards to ‘breaking the buck,’ Schapiro says:

Money market funds seek to maintain a stable net asset value of $1.00 per share. But, because these funds are securities products, they are not immune from the risk of loss of principal.

With this statement, Sense on cents believes Ms. Schapiro is informing the market to be prepared that funds will ‘break the buck.’ Schapiro further adds:

Today’s package of money market reforms also contains proposals to promote the orderly and efficient liquidation of a money market fund that has broken the buck. These proposals are intended to avoid the types of problems investors experienced from the disorderly fallout that resulted from the liquidation of the Reserve Primary Fund.

This statement is another strong indication that funds will in fact ‘break the buck’; the SEC, though, is implementing reforms which the Commission believes will stem ‘runs on a fund’ much as occurred during the liquidation of the Reserve Fund.

These reforms will require money market funds to maintain a certain degree of cash or cash-equivalent securities. Additionally, the reforms will restrict funds from certain investments. These restrictions will apply to the credit quality and maturity of the investment. Specifically, the SEC statement indicates:

The proposals would establish new liquidity requirements for money market funds, so that the funds are required to hold specified percentages of their assets in cash or highly liquid securities. This will enable money market funds to be better positioned to meet demands from investors who want to redeem their shares on a short term basis. The proposals also would enhance the quality of money market fund investments by strengthening the credit quality and portfolio maturity requirements of rule 2a-7.

In addition, the proposals would enhance the Commission’s ability to monitor money market funds. For example, the proposals would require money market funds to disclose their portfolio holdings on a monthly basis.

I would ask Ms. Schapiro and her constituents at the SEC how the new version of municipal Auction-Rate Securities, known as x-Tender securities (known as Porky Pig at Sense on cents), can possibly fit into a money market fund given these newly defined parameters. For details on this security, I refer you to my post “An Auction-Rate Pig by Any Other Name Is Still a Pig.”

In summary, Sense on cents would make the following recommendations:

1. Check with your brokers, financial planners, and banks to determine whether your money market funds are currently participating in the Treasury’s Temporary Guarantee for Money Market Funds.

2. Inquire as to what the NAV of the fund would be without the guarantee in place. Expect that your broker or financial planner will not share or will indicate that they can not get that information. Neither answer is acceptable. Get total information so you can make proper determination as to whether you want to stay in the fund or not.

3. The x-Tender security (municipal Auction-Rate Security) is a relatively new development so I would not expect many funds to have exposure to these ‘pigs’ yet. That said, better to be proactive with your brokers, financial planners, and banks. Inquire as to whether they even know what this security is and then have them check whether your fund (most likely municpal money market funds) has exposure. Stay away!!

I ask anybody in the financial industry to share with us why investors should feel comfortable with this security.

I hope this information proves helpful. If so, please share it with others. Please also share with us what you learn about your funds so we can all most effectively navigate the economic landscape!!

About Larry Doyle 522 Articles

Larry Doyle embarked on his Wall Street career in 1983 as a mortgage-backed securities trader for The First Boston Corporation. He was involved in the growth and development of the secondary mortgage market from its near infancy.

After close to 7 years at First Boston, Larry joined Bear Stearns in early 1990 as a mortgage trader. In 1993, Larry was named a Senior Managing Director at the firm. He left Bear to join Union Bank of Switzerland in late 1996 as Head of Mortgage Trading.

In 1998, after 15 years of trading and precipitated by Swiss Bank’s takeover of UBS, Larry moved from trading to sales as a senior salesperson at Bank of America. His move into sales led him to the role as National Sales Manager for Securitized Products at JP Morgan Chase in 2000. He was integrally involved in developing the department, hiring 40 salespeople, and generating $300 million in sales revenue. He left JP Morgan in 2006.

Throughout his career, Larry eagerly engaged clients and colleagues. He has mentored dozens of junior colleagues, recruited at a number of colleges and universities, and interviewed hundreds. He has also had extensive public speaking experience. Additionally, Larry served as Chair of the Mortgage Trading Committee for the Public Securities Association (PSA) in the mid-90s.

Larry graduated Cum Laude, Phi Beta Kappa in 1983 from the College of the Holy Cross.

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