Until the financial crisis blossomed in September 2008, only one mutual fund had dipped below a net asset value of $1.00 per share. But the typically resilient, low risk investment vehicles were not spared as financial firms took big hits. Fearing a run on money market mutual funds (MMFs) the Federal Reserve stepped in with a $540 billion guarantee of investments. Since then there has been increased discussion about increasing regulations for MMFs, including tightening credit quality and liquidity standards.
All regulatory proposals have been focused in ensuring fund liquidity, value stability and safety, and high yield. In November 2008, the Investment Company Institute, working with the U.S. Chamber of Commerce, formed the Money Market Working Group, led by the mutual fund manager The Vanguard Group Chairman Jack Brennan. This team of industry leaders issued a report in March outlining their proposals for increasing MMF regulation. The idea, in reshaping regulation, is to create investment vehicles that will provide an outlet for investment, even in a liquidity crisis, that will avoid leaning on the government as lender of last resort.
Critical for achieving new regulatory goals is increasing information about the assets and liabilities built into a fund. Former SEC Chairman Harvey Pitt has suggested developing a “pipeline” of information from the financial sector to regulators. The Working Group proposes increasing credit quality standards and limiting the range of maturity dates within a portfolio. The Group furthermore suggests that fund managers pay closer attention to “client risk,” referring to the composition and diversification of their investor base.
Central to most regulatory reform proposals has been a review of Rule 2a-7, an SEC regulation that sets limits for mutual fund risk taking and requires certain transparency. The Working Group has proposed that, for the first time, 2a-7 be tightened to require daily and weekly minimum liquidity requirements. The SEC is also seeking to reign in alternatives to MMFs that operate like 2a-7 funds but are not subject to their limits.
Additional regulatory change proposals have been to turn MMFs into banking institutions and to have all mutual fund management firms pay into an insurance pool, like the banks do with the FDIC, to provide more stability. No matter what regulators try to do, they will have to find a balance between creating stability and not stifling the innovation of financial products for economic growth.