September 11, 2011
Fisch & Roiter on Floating NAV
A Floating NAV for Money Market Funds: Fix or Fantasy?, by Jill E. Fisch, University of Pennsylvania Law School - Institute for Law and Economics, and Eric Roiter, was recently posted on SSRN. Here is the abstract:
The announcement by the Reserve Primary Fund, in September 2008, that it was “breaking the buck,” triggered a widespread withdrawal of assets from other money market funds and led the U.S. Government to adopt emergency measures to maintain the stability of the short term credit markets. In light of these events, the SEC heightened the regulatory requirements to which money market funds - a three trillion dollar industry - are subject. Regulators and commentators continue to press for further regulatory change, however. The most controversial reform proposal would eliminate the ability of money market funds to purchase and sell shares at a stable $1/share price.
This article argues that the debate over a floating NAV is misguided. First, under current law, money market funds can maintain a $1 share price only under limited conditions. Second, a floating NAV would not achieve the goals claimed by its proponents. Third, and most important, a stable share price is critical to the existence of the money market funds industry. A required floating NAV would eliminate the fundamental attraction of money market funds for investors and, as a result, jeopardize the availability of short term capital.
The more important regulatory question, on which existing commentary has not focused, is what happens if an MMF breaks the buck. This article takes the position that this event should neither require the fund to be liquidated nor permit the board unfettered discretion in suspending redemptions. Instead the article proposes two procedural reforms designed to provide flexibility and predictability in these circumstances by allowing a money market fund to convert to a floating NAV and allowing investors to redeem most of their shares without awaiting completion of a fund’s liquidation. In conjunction with a modest amendment requiring improved fund disclosure about the circumstances under which a fund may be unable to maintain a stable share price, these changes will increase liquidity, address the pressures that may lead to a “run,” preserve the economic viability of money market funds, and allow them to respond to the preferences of investors.
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