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New Shadow Price Disclosure Rules for Money Market Funds Reveal Price Fluctuations

Intended to increase transparency, the SEC regulations could scare off institutional investors.

As the Securities and Exchange Commission adopts new disclosure rules for money market mutual funds, there’s plenty at stake for fund sponsors. Money market funds invest in short-term, highly liquid securities, with the goal of maintaining a stable $1.00 net asset value. The new regulations require them to publish mark-to-market share prices monthly on the SEC web site. Unlike commonly used NAV figures, these so-called shadow prices reveal small fluctuations as a result of market conditions.

In the U.S. money market funds claim about $2.75 trillion in assets, nearly 25 percent of the $11.2 trillion in mutual funds. The industry’s main worry is over institutional assets, which account for two thirds of investment in U.S. money market funds. “Institutional money market investors are particularly sensitive to net asset value fluctuations, and they have the size to cause market disruptions,” says Peter Rizzo, global fund ratings team leader at Standard & Poor’s. “Retail money market investors, in contrast, are primarily focused on yield and are less likely to flee the funds in the face of minor price movements.”

Still, fund executives are confident that the transition to shadow prices will proceed smoothly. “We expect it to be a nonevent,” says Robert Deutsch, head of J.P. Morgan Global Liquidity. (With $283.5 billion in U.S. money market fund assets, JPMorgan Chase & Co. is the nation’s second-biggest money fund sponsor and the largest in the world.) So far, Deutsch is right. In the two weeks after shadow prices went public on January 31, money market fund assets grew by $15.64 billion; this followed five weeks of outflows totaling about $74 billion, according to Westboro, Massachusetts–based money fund tracker Crane Data.

Publicly registered money market funds used to report shadow prices to the SEC semiannually; now they must disclose them each month, with a 60-day lag. This delay helps calm industry fears that the data will be misunderstood. “It’s intended to mitigate the potential for investors to act irrationally after seeing price fluctuations,” says George (Gus) Sauter, CIO of Valley Forge, Pennsylvania–based Vanguard Group, which manages $165.7 billion in money market funds.

The shadow price disclosures are part of a set of money market fund reforms adopted by the SEC in February 2010. The rules are meant to stop a repeat of the 2008 run on money market funds. That September the $60 billion, New York–based Reserve Primary Fund — the oldest U.S. money fund — broke the sacrosanct buck when its nearly $800 million stake in Lehman Brothers Holdings commercial paper became worthless. In just three days money market funds lost about $169 billion in assets as investors bolted for the exits. To stop the crisis from spreading to other fixed-income sectors, the U.S. Department of the Treasury temporarily guaranteed all money fund deposits.

So far most of the February 2010 reforms have set tighter standards for credit quality, maturity and liquidity. But the shadow price disclosure requirements aim to increase transparency so investors and regulators can better understand money market funds’ risk.

“Transparency is critical for investor confidence and the integrity of the product,” says Simon Mendelson, co-head of BlackRock’s global cash and securities lending group. New York–based BlackRock is the fifth-largest money market fund sponsor in the U.S., with some $184 billion in money market assets.

A shadow price — the value of a fund’s securities divided by the number of outstanding shares — represents the true per-share market value. By comparison, NAV doesn’t reflect daily changes because it values each share at the purchase price, amortizing the discount or premium throughout the life of the security. Still, standard NAVs have always tracked money market funds’ mark-to-market share prices — hence the term “shadow price.”

Money market fund sponsors, as well as analysts and rating agencies, have long computed shadow prices to ensure that the funds’ amortized-cost-based NAVs weren’t straying too far from actual per-share market value. But now shadow prices must be reported to the fourth rather than the second decimal place. Historically, the second-decimal-place standard has been crucial to money market funds’ keeping a $1.00 share price.

The move to shadow prices won’t mark the end of money market funds’ struggles to retain and grow assets in a tougher regulatory environment.  The SEC is weighing deeper changes, including a floating NAV, which the industry strongly opposes.

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