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Posts Tagged ‘will money market funds break the buck’

SEC’s New Money Market Fund Rules

Posted by Larry Doyle on January 29th, 2010 10:44 AM |

Sense on Cents once again thanks our friends at 12th Street Capital for providing tremendously useful information and analysis. What do we learn today? The new rules adopted by the SEC for money market funds.

The overview of these rules is provided by Orrick, Herrington and Sutcliffe LLP.  The driving force behind the new SEC rules is an effort to promote greater disclosure and liquidity within money market portfolios. After the crisis of 2008-whenever (it’s not over yet), money market funds were and are much riskier than previously perceived. The risks lay in the fact that these funds invested in a fair amount of risky assets. Now that the government backstop of this industry has ceased, the new rules are needed for the industry to move forward.

Investors need to know that when these rules are effective (sometime  in 2010), funds can ‘break the buck’ ($1.00 NAV, net asset value) and suspend redemptions.  

Navigate accordingly knowing that the money market industry is not what it used to be.

Thanks again to 12th Street and to Orrick for this 2-page overview. Click on image to open pdf document:

LD

No Time for Complacency on Insurance and Money Fund Exposures

Posted by Larry Doyle on July 29th, 2009 1:02 PM |

Despite the rise in the equity markets and supposed hints of stability in the economy, this is no time to get complacent about your investments. The transition we are experiencing in the economy and the markets will present real opportunities, but also real risks.

On the topic of risks, it is of paramount importance that all investors get full information from your brokers and financial planners across all your exposures. Do not allow those managing your money to indicate ‘the market feels OK here’ and leave it at that. Why? Significant underlying fundamental risks remain in the market. I am reminded of two of them this morning as I read the following about insurance companies and money market funds:

1. Experts Call for Fed Involvement in Insurance Industry — but to Different Degrees; InvestmentNews, July 29, 2009

Members of Congress are being urged to create — at a minimum — a new regulatory body within the federal government to focus on the insurance industry. “There is some systemic risk in insurance requiring a regulator,” said Travis Plunkett, legislative director of the Washington-based Consumer Federation of America, who was part of a panel of experts testifying today at a Senate Banking Committee hearing on modernizing insurance regulation.

“In order to fully understand and control systemic risk in this very complex industry, the federal government should take over solvency and prudential regulation of insurance as well.

This shift in regulatory oversight of the insurance industry would be a massive undertaking. Recall that all insurance companies are currently regulated at the state level; however, state insurance reserves to protect policyholders against defaults are woefully deficient.

The Wall Street Journal touches upon this as well, in writing Syntax Error? Life Insurers and Earnings:

Some life insurers used the recent market upturn to raise more than $10 billion in combined capital. Hartford Financial Services Group and Lincoln National, which report after the market closes Wednesday, accepted Treasury Department money. The injections have scaled back doomsday scenarios, as well as liquidity concerns that made a few insurers short-selling favorites.

At Hartford and Lincoln, analysts are watching closely to see if the government bailouts may be tainting the insurers in consumers’ eyes.

While certain banks were forced to take TARP money, for Hartford and Lincoln taking TARP became a necessity. If I had exposure to these institutions, I’d be monitoring them very closely. I’d do the same with all my insurance exposures.

2. Money Funds Are Ripe for ‘Radical Surgery’; Bloomberg News; Jane Bryant Quinn writes:

I’m among the last people standing who think that Paul Volcker is right about money-market mutual funds. They pose a systemic risk to the financial system and need a radical fix.

When a central banker of Volcker’s magnitude raises a concern of systemic risk, I am all ears. Virtually the entire money market industry is currently backstopped by Uncle Sam. How many of these money funds may ‘break the buck‘ without some form of assistance? Bryant asserts:

In most cases, money-fund sponsors have come to the rescue of their funds if any question arose about the $1 value of their shares. Peter Crane, president and founder of Crane Data LLC in Westboro, Massachusetts, says as many as one-third of the funds will have needed support by the time this global financial squeeze abates.

But you can’t be sure that sponsors will always be willing or able to bail out their shareholders, says Jack Winters of Hingham, Massachusetts, an expert who worked in the industry from 1976 to 2008 and commented on the SEC proposals.

“Dealers supported auction-rate securities for 25 years until their financial situation precluded it,” Winters says.

We know all too well how the ARS debacle unfolded.

No time for complacency!!

LD

Related Commentary

Got Insurance? 529 Plans? Financial Aid? Read On…

Is My Insurance Insured?

Next Stop on the TARP Train: Philadelphia

The Buck Is Beginning to Break

The Wall Street “Sausage-Making” Process

Posted by Larry Doyle on June 20th, 2009 9:01 AM |

Why do pigs need to go through such a curing process before finding their way to market? The innards of a pig are filled with all sorts of waste. In the same vein, the new Wall Street pig, otherwise known as an x-Tender security (but hereby deemed Porky Pig at Sense on Cents), is also filled with similar “junk.” I will try to make this quick, but bring a mask as we navigate the Wall Street sausage factory.

Please recall from my post yesterday, “An Auction-Rate Pig by Any Other Name Is Still a Pig”, that this ‘new’ Wall Street product is merely a revised version of THE LARGEST fraud perpetrated in the history of finance. This “pig” allows municipalities to address long-term funding needs via the short term debt market. The arbitrage involved in that process is akin to slaughtering the pig and making sausage.

Given the stench surrounding this product, take a deep breath as we tip-toe through the pigsty and move into the sausage factory. The Wall Street Journal can serve as our tour guide as it writes, Belt-Tightening by States Squeezes Cities and Towns. Let me connect the dots.

As this article highlights, municipalities across our country are increasingly financially strapped by a combination of decreasing tax revenues and lessened state funding. Regrettably, these municipalities are forced to cut expenses via a reduction in services and layoffs. Additionally, it is only logical to expect that municipalities will increase taxes to bridge their financial gap.

Add it all up, though, and it is very clear that an overwhelming number of municipalities in our nation are not as creditworthy today as a year or two ago. When credit ratings decline, borrowing costs go up. Those increased borrowing costs further squeeze the municipalities. What to do? Let’s enter the sausage factory.

With the blessing of the SEC, and the wizardry of financial engineers on Wall Street, municipalities can address long-term funding needs by borrowing money via the short-term market with a ‘promise’ to repay the funds if the short-term market shuts down. These municipal deals, much like sausage, are packaged and distributed via money market funds that incorporate a variety of short term deals. As such, the poorer credit quality of the municipality is “processed” and sold without investors fully appreciating the contents of the money market fund.

This works, right? The municipality receives the badly needed funds and the Wall Street banks earn their fees. Meanwhile, investors – who by nature move in and out of money market funds expecting them never to “break the buck” (meaning the funds will always maintain a $1.00 net asset value) – are kept in the dark.

Investors should appreciate that money market funds will likely “break the buck” going forward. All one needs to do is review the fiasco involved with the longstanding money market fund, The Reserve Fund.  Investors in that money market fund are now involved in a protracted legal dispute and the value of the fund is truly a great unknown. What happened? The fund took increased credit risk in a variety of products. Investors were clueless of these credit risks.

The same “sausage-making” is going on with this new x-Tender product. I exhort every investor to “check the contents” and ask the “butcher”, that being your broker or financial planner, as to what is going into that money market fund before you buy it.

LD






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