WASHINGTON -- The Securities and Exchange Commission is tentatively scheduled to vote Dec. 15 on whether to propose a rule that would tighten credit quality standards for tax-exempt money market funds, agency sources said yesterday.
The agency also may vote on a controversial provision being pushed by SEC commissioner Richard Roberts that would keep money market find managers from holding the bonds of issuers that do not pledge in official statements to provide secondary market disclosure, sources said.
Both measures would amend SEC Rule 2a-7, which sets standards for the quality and diversity of commercial paper and other securities held by money market finds. If adopted by the four current members of the commission, the rule would be printed in the Federal Register for public comment in late December or early January.
The SEC issued final rules in early 1991 that tightened standards for taxable money market funds, but the measure generally did not cover tax-exempt money market finds. Officials from the agency's investment management division said they needed more time to study the tax-exempt market before drafting a proposed rule.
SEC Chairman Arthur Levitt Jr. told a congressional panel on Nov. 10 that the agency "will soon" consider rule revision for funds investing in tax-exempt instruments. Levitt said the rule will probably recommend different standards for paper-issued by cities and other governmental entities and for conduit bonds, which he defined as tax-exempt bonds where the underlying obligor is a corporation a non-governmental project.
Levitt said the revisions will be designed to provide investors in tax-exempt finds the same degree of safety of principal that Rule 2a-7 now provides for taxable funds.
One of the issues the SEC is examining is whether tax-exempt finds should be "brought in in two groups and treated differently," said Robert Plaze, assistant director for investment management at the SEC, in an interview last month. "Let's say there are limits on what percentage of its portfolio [a fund] can hold in securities issued by a particular issuer. [You] could have one level of diversity for municipals directly issued by municipalities and another for conduits."
The agency's standards for taxable funds ran into opposition from a host of large corporations that turn to commercial paper to raise capital. They named that the amendments may shut an entire class of borrowers out of the market, since money funds, which hold nearly 40% of outstanding paper, can no longer purchase lower-quality securities.
The agency voted in February 1991 to put a 5% cap on the amount of less than top-grade paper that funds can hold. Paper for the most part must now carry top ratings -- A1 from Standard & Poor's Corp. and P1 from Moody's Investors Service -- to be bought by taxable money market funds.
The SEC also said a fund can invest no more than 5% of its assets in securities of any one issuer and no more than 10% of its assets in securities backed by any one bank or other institution. The agency also limited a fund's holdings in "split paper," which is an issue rated differently by various agencies.
Following the SEC's vote in 1991, agency staff members said that such a rule may be too restrictive for tax-exempts since there is not as much A-1 and P-1 tax-exempt paper available as there is top-rated taxable paper. Also, the rule could not work for tax-exempt funds that invest only in the paper of single states, they said.
The Investment Company Institute told the SEC in 1991 that it supports tighter standards for tax-exempt funds, but with two changes. In the case of split-rated securities, the institute said funds should be permitted to treat a split-rated security as having the higher rating assigned to it by 50% of the rating agencies that have rated the security.
Thus, a security that has been rated in the highest category by one rating agency and in the next lower category by another could be treated as having the higher rating. That is particularly important in the tax-exempt area, because there is a large outstanding inventory of securities that were rated only by Standard & Poor's and Moody's.
The institute also said that single-state funds should not be held to the same tough diversification requirement as multistate funds. Instead, the SEC should require added disclosure in the prospectuses, sales literature, and advertising of single-state funds. Documents should state clearly that the funds will concentrate on a single state and that there may be additional risks as a result. The name of the state involved should be included in the fund's title, the institute said.
The SEC staff also has been debating whether to include the restriction proposed by Roberts, which is aimed at shoring up secondary market disclosure for municipals. But sources yesterday said they did not know if the provision has been incorporated into the rule being sent to commissioners.
The institute warned in a letter to Roberts in 1991 that the commissioner's plan would place tax-exempt money market funds at a "competitive disadvantage vis-a-vis other investment products.
"We believe that restrictions on only one segment of purchasers of municipal securities, namely investment companies, seems to be a less efficient means of imposing disclosure obligations than direct regulation of issuers of these securities," the letter says.