By now, BankThink readers are well aware that Jerry Hawke thinks money market mutual funds require no further regulation. Most of you have probably read that the SEC disagrees, and has an extensive reform proposal in the works (against which the money fund industry is mobilizing). Here’s a third view.
David Merkel at Aleph Blog pans the SEC’s plan to require capital buffers for money market funds, restrict redemptions, and ditch their fixed $1 share price for a floating net asset value. The regulator wants to avoid runs and bailouts on these vehicles. So does Merkel. But rather than try to make money market funds safer, he essentially wants everyone to recognize and admit and deal with the reality that they aren’t safe.
"Let there be stable net asset values, freedom in investment guidelines, but the possibility of credit events," Merkel writes. In other words, investors in the funds should know going in they might lose money. If a fund breaks the buck – that is, if the market value of its holdings falls significantly below par – Merkel says it should tell investors they’ve taken a hit. The share price could remain at $1 but the number of shares would be reduced, so the investors would no longer be able to withdraw a dollar for every one they put in. In return for sacrificing safety (or, rather, the illusion of it), money market funds would be allowed to take more risk, and potentially generate higher returns. No false sense of security, no federal backstop.
Merkel, an asset manager, first floated (so to speak) this idea in October 2008, shortly after the Reserve Primary fund broke the buck, triggering a run on money funds and leading to a bailout for the sector. In a post today, he maintains that his plan is better than the SEC’s.
And for a moment, Merkel sounds a little bit like Hawke, a former Comptroller of the Currency, and now outside counsel to Federated Investors, a big sponsor of money funds. "Why are we going after money market funds?" Merkel asks. "When they fail, the cost is pennies on the dollar, and it rarely happens." Also like Hawke, Merkel notes that banks "fail far more frequently, with much larger losses."
But unlike money fund industry advocates, Merkel does not want to preserve the status quo. He quickly adds: "I say let money market funds fail, and do not increase regulations on them. Regulate the banks tightly, but let money market funds go free, but advertise that losses are more than possible."
Marc Hochstein is the Executive Editor of American Banker.