Tuesday, February 7, 2012

Again- A BAD Idea Proposed for Money Market Funds!

Money market funds might be called the life blood of capitalist society in that their (fixed income or nearly so) assets provide an important source of credit for companies which will then use it for expanding plant, or labor. In an environment in which credit is still very tight (thanks to the banks) this can be the difference between business failure and success. Hence, in any context in which one will be discussing jobs or the need to keep jobs or increase them, money market funds will have to enter the conversation.

Now, the tragedy is that these funds' assets appear to be shrinking as disclosed in the attached graphs from today's Wall Street Journal (p. 2, and front page 'U.S. Set Money-Market Plan'). As one can see from the left graph, the total U.S. assets have decreased from nearly $3.8 trillionin 2008 (when the financial crisis and especially the Lehman failure hit) to about $2.7 trillion now. Meanwhile, the number of these funds has decreased to 632.

Now, who invests in these funds? Largely little guy investors who are near retirement and don't wish to lose their shirts or homes in another stock market crash ...and make no mistake a new bubble is brewing what with Fed policies and cheap money (based on near zero interest rates) likely to continue through 2014. Thus, those within about 3 weeks of retiring, like my wife, must - to protect their nest egg assets- move 401k monies into an IRA which has basically only money market funds to offer as the safest option. (No Treasuries or bonds).

But what if, say, an investor who depends on this money to support a lengthy retirement wakes up one morning to discover that the total money in that IRA money market fund has shrunken by 50% or more? What then? What if the next day the total decreases another 20%? Then the next day it goes up maybe 10% but then down 15%? What kind of an effect do you suppose this will have on the prospective retiree who depends on a fixed income to make budgeting decisions?

And yet, evidently the illustrious Securities and Exchange Commission (SEC) as part of new proposals to "minimize any losses for shareholders in the event of another financial panic" (ibid.) are planning to "float" money markets, which means leaving them exposed to variable daily fluctuations like mutual funds - the very things that cratered most small investors 401ks in the 2008 crash! According to the WSJ piece:

"The SEC plans to propose scrapping the money funds fixed $1 net asset value and make it floatable like other mutual funds"

The problem, of course, is that money market funds aren't supposed to be "like other mutual funds" because they are supposed to be the last haven where small guy investors can go to preserve principal, as opposed to taking humongous losses in the stock market. (Realize here that mutuals are comprised of all the nasties resident in stocks, including derivatives that are buried in equities). In this sense, one can question the SEC objective "to minimize any losses for shareholders ". Because if floating NAV is on the table, what this really translates to is "letting them maybe lose their homes or cars but not their shirts and food". Minimized, get it! You still have a "floor" for maximum loss, but now a lot lower than before!

What is behind this nonsense? Enraged small investors faced with possible floating rates can blame a largely Gooper congress and the Dodd-Frank bill - which had to be tailored to what the GOP House wanted if it was to pass. That included absolutely, positively NO more government "bailouts" of any financial funds, including money markets. Recall here that the money market fund called "Reserve Primary" broke the buck (e.g. went below its designated one dollar parity NAV) in 2008 and at that time the ensuing panic subsided only after the Fed and the Treasury Dept. stepped in to backstop the funds and provide the $$ to ensure $1 parity. Well no more. According to SEC Chairwoman, Mary Schapiro, quoted in the WSJ article (p. A2):

"At the end of the day, the taxpayer simply can't be on the hook for failure, and the tools to ameliorate a run that existed in 2008 when Reserve broke the buck don't exist any more."

In other words, all the small investors, mainly soon to be or already retirees, are now on the hook for the losses if any, that a new panic brings. They - who are also taxpayers- now face losing principal as well as losing to inflation because of the Fed's zero interest, pro stock market policies. But as my wife observed, maybe that's why the SEC is taking this step, to drive people into the stock market via regular mutual funds.

The victim in any case is the money market fund holder, especially since money market funds are about the only safe (e.g. relatively fixed income) option afforded in most IRAs and 401ks. So, if floating share prices are now allowed, the money market investor may lose as much (theoretically) as if he were invested in certain "balanced" mutual funds, or index funds. Now sure, the float could also go upward, rewarding the investor, but once any variable share value emerges then we have speculation and propensity for market timing. Obviously, money market investors will attempt to play it so they cash out at the highest floated share price, not the lowest. This then introduces the same sort of gamesmanship that occurs in the Wall Street stock casino

Of course, this is only one of several major complaints of fund managers, others are concerned with new liquidity rules and lending. A "liquidity fee" is also being bruited about. Needless to say there are some unhappy campers. For example, J. Christopher Donahue of Federated Investors, Inc,. plans to sue the SEC if the new regulations interfere with his firm's ability to do business.

A worse consequence is that many small fry will pull money out of these things regardless, especially if the floating aspect is enacted. The end result could be the loss of trillions of dollars for business credit in an already low demand environment.

All in all, this proposal of floating the NAV for money market funds, which provide the ballast of credit for American businesses, is a horrific idea. It is much fairer to ALL money market investors to keep the $1 share price as the standard, and leave the variable rates optional for Funds that wish to offer more speculative instruments. The choice is therefore one the SEC needs to make for opt for minimal moral failure as opposed to "minimizing shareholder losses": i.e. not turn the immense money market sphere into another speculative domain - to the detriment of all cautious savers- who may need all the money they can muster to live off a lifetime income stream via annuities or RMDs.

They chose not to speculate in the stock market, and they should not now be compelled to do so in money markets. SEC, take note!

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