Tags: Bair | SEC | money market | funds

House Financial Services Defends Money Funds — Part II

By    |   Friday, 04 October 2013 01:44 PM

Thursday's article set forth the positions of Republican critics and Democratic supporters of a pending proposal by the Securities and Exchange Commission (SEC) to impose either so-called floating net asset values (NAVs), barriers to redemption or a combination of these, but not to require capital buffers, in order to reduce the likelihood of another destructive run on money funds like the one that occurred during the 2008 episode of the going financial crisis, when the Reserve Fund "broke the buck," institutional customers withdrew from funds and the government stepped in with an array of measures to shore up the industry.

The House Financial Services Committee's Subcommittee on Capital Markets and Government Sponsored Enterprises, chaired by Rep. Scott Garrett (R-NJ), held a hearing on Sept. 18 regarding the proposal that featured five witnesses representing the fund industry, fund investors and the ubiquitous former FDIC Chairman Sheila Bair, now appearing in the role of Chair of the "Systemic Risk Council," a group of experts sponsored by the Pew Charitable Trusts in Washington.

Today's article will summarize the panel discussion, which resolved itself into a contest between two formidable figures — Paul Schott Stevens, CEO of the powerful industry lobby the Investment Company Institute (ICI), and Bair. (I have tangled with Stevens in a public forum and have written numerous articles critical of Bair's leadership of the troubled banking agency, so this event had considerable appeal. One is reminded of the tale of the frontier woman whose husband was attacked by a bear and was torn as to which to root for: "Go husband! Go bear!")

To set the stage for the main event, it is useful to deal first with the presentations of the supporting cast: Steven McCoy, treasurer of the State of Georgia, representing the National Association of State Treasurers; Marie Chandoha, CEO of Charles Schwab Investment Management Inc.; and James Gilligan, assistant treasurer of Great Plains Energy, representing the U.S. Chamber of Commerce. (I actually "talked to Chuck" at a reception when Schwab opened its Washington office many years ago.)

McCoy offered the unique perspective of a state treasurer who has come to rely on money funds as a receptacle for short-term money and who finds it impractical to use banks because for some reason states typically require 110 percent collateral.

He explained the workings of a device called the local government investment pool (LGIP), which states use to create economies of scale in the management of a variety of local government and college funds. Like almost everyone else, his group is seeking an exemption from the application of the Dodd-Frank Act.

Chandoha employed the Obama expression "let me be clear," but she was anything but clear. For some reason, perhaps political, she wanted to be recorded as supporting the proposal, but she clung to the argument that funds like Schwab's aren't problematic because retail investors are not prone to runs.

Bair exploded this notion by pointing out that retail investors don't run because they aren't sufficiently aware of the threat to fund stability to know that they should.

Gilligan's problem, or perceived problem, arises from his perspective as a corporate treasurer. He, too, wants to be exempt, but his argument is based on the uncertainty of a floating NAV and the risk of being locked out of the funds, both of which are intolerable risks for corporate treasurers. Thus, this is not the product on which treasurers have come to rely.

Evidently they have not processed the fact that the money fund product blew up in 2008 and was bailed out by extralegal federal intervention. Most remarkable is Gilligan's complaint that corporate treasurers can't use banks as an alternative, because banks require onerous terms, such as large denominations, Libor-based interest rates and maturities of at least 30 days. It is beyond the scope of this article to suggest an alternative that treasurers appear to be overlooking, but perhaps they need to be a bit more creative.

Now for the main event. Bair is at her best when she's criticizing the performance of other regulators, like the Federal Reserve and, in this case, the SEC. On this occasion, she criticized the feature of the so-called "stable NAV" as creating an incentive for investors to run while they can still get full payment and avoid having to pay for the losses of those who ran ahead of them.

She blasted the SEC's proposed reforms as having "too many holes and exceptions to adequately protect the financial system." She pointed out that limiting the NAV float would indirectly support investors in Treasury and agency securities by treating them as risk-free when they are not.

She warned that the proposed gates and fees would make the system riskier than current practices are, because they would create an additional incentive for investors to run, in order to avoid the gates and fees.

Instead, Bair proposed a freer float for NAVs that would treat money funds the same as other mutual funds and provide clearer market signals that would foster more efficient asset allocation and reduce the risk of costly taxpayer bailouts.

Stevens adopted the same stance as other financial industry leaders, stressing the value of the product in its idealized state, invoking the support of the constituencies the product served well before it cratered and placing the protection of the product ahead of the public interest in avoiding future episodes of financial disaster, followed by costly bailouts.

He concluded by proclaiming that "In the five years since the financial crisis, the fund industry has supported the SEC's efforts to make money market funds even more resilient, even as they continue to play their valued and important role for investors and the economy."

This is the message the industry is putting out for every product that blew up during the 2008 episode. The product is great, and we're working to make it even greater. It's like the "closer mentality" of a pitcher or field goal kicker who has to put out of his mind the fact that he completely imploded in his last performance.

Someone independent has to look at this and say, this isn't good enough, when the stakes aren't the outcome of a ballgame, but the health of the global economy.

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The House Financial Services Committee's Subcommittee on Capital Markets and Government Sponsored Enterprises held a hearing on the SEC proposal to impose either so-called floating net asset values (NAVs), barriers to redemption or a combination of these, but not to require capital buffers.
Bair,SEC,money market,funds
Friday, 04 October 2013 01:44 PM
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