[1] Money market funds are managed with the goal of maintaining a highly stable asset value through liquid investments, while paying income to investors in the form of dividends.
Money market funds in the United States are regulated by the Securities and Exchange Commission (SEC) under the Investment Company Act of 1940.
The portfolio must maintain a weighted average maturity (WAM) of 60 days or less and not invest more than 5% in any one issuer, except for government securities and repurchase agreements.
[5] It was named the Reserve Fund and was offered to investors who were interested in preserving their cash and earning a small rate of return.
[7] Money market funds seek a stable net asset value (NAV) per share (which is generally $1.00 in the United States).
This was done because the expected cost to the business from allowing the fund value to drop—in lost customers and reputation—was greater than the amount needed to bail it out.
[9] The first money market mutual fund to break the buck was First Multifund for Daily Income (FMDI) in 1978, liquidating and restating NAV at 94 cents per share.
An argument has been made that FMDI was not technically a money market fund as, at the time of liquidation, the average maturity of securities in its portfolio exceeded two years.
Seeking higher yield, FMDI had purchased increasingly longer maturity securities, and rising interest rates negatively impacted the value of its portfolio.
On Tuesday, September 16, The Reserve Primary Fund broke the buck when its shares fell to 97 cents after writing off debt issued by Lehman Brothers.
The program immediately stabilized the system and stanched the outflows, but drew criticism from banking organizations, including the Independent Community Bankers of America and American Bankers Association, who expected funds to drain out of bank deposits and into newly insured money funds, as these latter would combine higher yields with insurance.
Thus there was concern that the run could cause extensive bankruptcies, a debt deflation spiral, and serious damage to the real economy, as in the Great Depression.
[citation needed] The drop in demand resulted in a "buyers strike", as money funds could not (because of redemptions) or would not (because of fear of redemptions) buy commercial paper, driving yields up dramatically: from around 2% the previous week to 8%,[13] and funds put their money in Treasuries, driving their yields close to 0%.
An earlier crisis occurred in 2007–2008, where the demand for asset-backed commercial paper dropped, causing the collapse of some structured investment vehicles.
Institutional money funds are high minimum investment, low expense share classes that are marketed to corporations, governments, or fiduciaries.
SEC rule amendments released July 24, 2014, have 'improved' the definition of a retail money fund to be one that has policies and procedures reasonably designed to limit its shareholders to natural persons.
[21] Among the largest companies offering institutional money funds are JPmorgan, BlackRock, Western Asset, Federated Investors, Bank of America, Dreyfus, AIM and Evergreen (Wachovia).
[22] Finally, because they invest in lower quality securities, ultrashort bond funds are more susceptible to adverse market conditions such as those brought on by the financial crisis of 2007–2010.
A deconstruction of the September 2008 events around money market funds, and the resulting fear, panic, contagion, classic bank run, emergency need for substantial external propping up, etc.
revealed that the US regulatory system covering the basic extension of credit has had substantial flaws that in hindsight date back at least two decades.
The OCC is housed within the Treasury Department, which in turn manages the issuance and maintenance of the multi-trillion dollar debt of the US government.
The SEC's focus remains on adequate disclosure of risk, and honesty and integrity in financial reporting and trading markets.
To many retail investors, money market funds are confusingly similar to traditional bank demand deposits.
To illustrate the various blending and blurring of functions between classic banking and investing activities at money market funds, a simplified example will help.
They would borrow here as they experienced their deepest cash needs over an operating cycle to temporarily finance short-term build ups in inventory and receivables.
Or, they moved to this funding market from a former bank revolving line of credit, that was guaranteed to be available to them as they needed it, but had to be cleaned up to a zero balance for at least 60 days out of the year.
Likewise, on the other end, corporations saw the attractive interest rates and incredibly easy ability to constantly roll over short term commercial paper.
[27] The Securities and Exchange Commission (SEC) issued final rules that are designed to address money funds’ susceptibility to heavy redemptions in times of stress, improve their ability to manage and mitigate potential contagion from such redemptions, and increase the transparency of their risks, while preserving, as much as possible, their benefits.
Other provisions In addition, the SEC is adopting amendments designed to make money market funds more resilient by increasing the diversification of their portfolios, enhancing their stress testing, and improving transparency by requiring money market funds to report additional information to the SEC and to investors.
Additionally, stress testing will be required and a key focus will be placed on the funds ability to maintain weekly liquid assets of at least 10%.