SEC Chairman Calls Off Vote for Money Market Fund Reform

The Issues With Money Market Funds  

While the 2008 financial crisis dramatically exposed the risks presented by money market funds, it also highlighted that the risks stem from flaws inherent in the structure of the funds, Schapiro said. In particular, most of the risks resulted from the valuation standards and stable net asset value (NAV) that are permitted to exist by SEC rule, without any capital or asset cushion to back them up.   

Schapiro pointed out two structural issues with money market funds:  

• Money market funds have no ability to absorb a loss above a certain size without breaking the buck. Schapiro said that this was seen firsthand with the Reserve Primary Fund, where just over 1% of that fund's assets were held in commercial paper of Lehman Brothers. When Lehman Brothers declared bankruptcy, its commercial paper became worthless, the fund broke the buck, investors began to flee the fund and other funds began to experience high rates of redemptions as a result.   
• Investors of money market funds have every incentive to run at the first sign of a problem. Schapiro said this phenomenon played out in the week of September 15, 2008, when over $300 billion was withdrawn from prime money market funds. Under the “first-mover advantage,” those who redeem first get out with their full $1.00 invested, even if the fund's assets are worth slightly less. This leaves all the other investors holding the bag—usually the slower-moving retail investors who can lose both value and access to their money. They lose the value when the fund reaches a mark-to-market NAV of 99-and-a-half cents and breaks the buck. They also lose access, for an unknown period, because fund boards are now permitted to suspend redemptions and liquidate a fund if it breaks the buck.