By CIO, Stuart Katz
March 13, 2023 – During the April 2020 COVID market meltdown, there was an increasing number of questions regarding money market funds. It seems we are “back to the future.” Below is the Investment Office’s summary of several key issues to consider in this environment of elevated uncertainty and volatility.
“Broke the Buck”
Do you remember where you were on September 16, 2008? I do! Please contact me if you are interested in the story. On September 16, 2008, $60 billion Reserve Primary Fund “broke the buck.” That meant the fund managers couldn’t maintain its share price at the $1 value. Money market funds used that value as a reference benchmark. After the bankruptcy of Lehman Brothers investors were panicking and selling to generate cash. Investors were worried that the Reserve Primary Fund would go bankrupt due to its investments in Lehman Brothers short term paper. Lehman had invested a large part of their holdings in mortgage-backed securities and other derivatives. Those investments were losing value because housing prices had started falling in 2006. That meant homeowners couldn’t sell their homes for what they paid for them. The combination of mortgage foreclosures, financial leverage and shenanigans, amongst other factors, resulted in Lehman’s decision to declare bankruptcy. That panic created an unprecedented run on a supposedly safe “cash equivalent” money market funds.
2008-2009 Lessons Learned
Two significant regulatory changes impacted money market funds since the Great Financial Crisis 2008-2009, when the oldest money fund, the now-defunct Reserve Primary Fund, broke the buck. In 2010, the Securities and Exchange Commission (SEC) required money funds to hold 10% of their assets in securities that could be liquidated for cash in one day, and 30% in seven days. They also had to reduce the average maturity of their holdings to 60 days from 90 days. In 2016, the SEC separated money-market funds into two groups—retail funds, which were allowed to keep the longstanding $1 per share value so long as they only held government-issued securities, and institutional prime money-market funds, which would have a floating net asset value (NAV), based on the value of the underlying securities.
That means prime funds can break the buck, or fall below $1 per share, if the short-term debt market sells off. All these changes were aimed at protecting investors from losing money in these ostensibly safe funds. The following distinction is incredibly important. Money market accounts are managed by banks and protected by the Federal Deposit Insurance Corporation, or FDIC. Money market funds have no such protection.
During the 2008-09 financial crisis, the Treasury Department had to lend support to the funds using a government cash reserve known as the Exchange Stabilization Fund. That fund provided billions of dollars of credit protection.
2020 U.S. Federal Reserve Money Market Stabilization Programs
Below is a summary of the 3 primary programs which are described in a more detailed document prepared by Schwab. Please reach out to your advisor if you want that document or have any further questions.
Money Market Mutual Fund Liquidity Facility (MMLF) was established by the Fed to enhance the liquidity and functioning of money market funds.
Primary Dealer Credit Facility (PDCF) allows primary dealers to borrow from the Fed via the PDCF by pledging collateral.
Commercial Paper Funding Facility (CPFF) is structured as a credit facility to facilitate the issuance of commercial paper by eligible issuers.
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