The Securities and Exchange Commission has given money market funds a reprieve from following an amendment to money market fund regulations requiring allowing them to approve of the credit rating agencies they must use to determine whether a security is eligible for investment.
Section 939A of the Dodd-Frank Wall Street Reform and Consumer Protection Act required the SEC to review the regulations that reference credit ratings and to modify regulations the Commission has identified to remove any requirement that funds rely on credit ratings. In the agencies place was to come "a standard of creditworthiness the commission determines appropriate."
In an Aug. 19 letter to the Investment Company Institute, the Washington, D.C. trade association representing mutual funds, the SEC said that Section 939A of the reform bill would have overridden one amendment to Rule 2a7 of the Investment Company Act of 1940. That amendment adopted in January 2010 was one that said the boards of money market funds must designate at least four nationally recognized statistical rating organizations (NRSROs), whose ratings they could use to determine the eligibility of portfolio securities.
Because the money market funds needed to disclose the names of those NRSROs in their statements of additional information by December 31, 2010, they would likely have to come up with the names of the four NRSROs this fall.
Money market funds, the pooled vehicles that invest surplus cash and have liquidity and safety as their primary concerns, typically buy securities with Triple-A ratings. And the rating agencies themselves have to be approved by national regulators – in the US, for example, an agency must be granted Nationally Recognized Statistical Rating Organization (or 'NRSRO') status by the Securities and Exchange Commission.
So far, the SEC has accredited 10 rating agencies: A.M Best Company; DBRS Ltd; Egan Jones Rating Company; Fitch, Inc., Japan Credit Rating Agency, LACE Financial Corp; Moody’s Investors Service; Rating and Investment Information, Inc; Realpoint; and Standard & Poor’s.
Reflecting public opinion that credit rating agencies missed the boat in understanding the risks involved with many fixed-income products, the reform bill required the SEC to “remove any reference to or requirement of reliance on credit ratings and substitute a standard of creditworthiness the Commission deems appropriate.”
That meant that money market funds will no longer rely on the ratings of credit rating agencies to determine if they should include a security in their portfolios.
“In listening to angry investors, Congress effectively downgraded credit rating agencies because they blamed them in part for the financial crisis,” says Jay Baris, a partner in the New York law firm of Kramer Levin Naftalis & Frankel. “But in doing so, Congress has effectively removed an additional protection for investors in money market funds.”
Still, mutual funds are pretty happy they don’t have to do lots of extra work for nothing. “Participants have pointed out that the effect of the Act would be to render the determinations made this Fall by fund boards irrelevant several months later when the commission is required to eliminate references to credit ratings that are central to the board designation requirements,” wrote the SEC in its letter to the ICI.
In a statement issued to Securities Technology Monitor on Monday night, Karrie McMillan, general counsel of the ICI, wrote: “We appreciate the SEC staff’s helpful and common-sense no-action position regarding industry compliance with the money market fund rules in light of potentially overriding provisions in the Dodd-Frank Act.”
The reform bill does not affect the remaining amendments to Rule 2a7 which impose new requirements for money market funds on portfolio quality, liquidity and repurchase agreements. The most important provision: money market funds must be able to process sales and redemptions at a net asset value of other than $1.00 a share.
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