The world of money market funds changed forever back in 2008, when an investment vehicle called the Reserve Primary Fund loaded up on loan obligations backed by Lehman Brothers. Lehman famously went under, and the fund "broke the buck," meaning that when Lehman was unable to pay back its loans, the value of a share of the Reserve Primary Fund dipped under $1.
This was the first time many investors realized that money market funds were not risk-free. Many panicked, causing a run on other money market instruments, and overall the event added another unhappy twist to the financial crisis.
Fast forward to the near future: October 14, 2016, the date when new protective regulations implemented by the Securities and Exchange Commission will go into effect. Yes, the government wheels creak along slowly.
What regulations? The new regulations make a distinction between institutional and retail money market funds. Prime and municipal/tax-exempt money market funds whose investors are institutions are required to move from a fixed $1.00 share price to a floating share price/NAV (net asset value).
U.S. government money market funds will be permitted to retain the stable $1.00 per share NAV and may be offered to retail investors or institutional investors. In order to be considered a government fund, a portfolio is required to invest at least 99.5% of its total assets in cash, government securities, and/or repurchase agreements that are collateralized solely by government securities or cash.
All retail money market funds will also maintain a stable $1.00 share price. In order to be considered a retail fund, the fund must have policies and procedures reasonably designed to limit beneficial ownership to natural persons (for example, accounts associated with social security numbers), including individual beneficiaries of certain trusts and participants in certain tax-deferred accounts, such as defined contribution plans.
Liquidity Fees and Redemption Gates
The SEC's amendments also include new rules about liquidity fees and gates (temporary suspension of redemptions) allowing a fund's board of directors to directly address runs on a fund. If deemed appropriate by the fund's board, fees and gates could be imposed on funds whose portfolios fail to meet certain liquidity thresholds.
• If a fund's weekly liquid assets fall below 10% of total assets, nongovernment funds are required to impose a 1% liquidity fee, unless the board determines that it would not be in the fund's best interest or that a higher (up to 2%) or lower fee is more appropriate.
• If a fund's weekly liquid assets fall below 30% of its total assets, the board may impose a liquidity fee of up to 2%. Additionally, the board may suspend redemptions for up to 10 business days in a 90-day period.
The bottom line is that retail investors will still be able to put $1 into a money market fund and expect to get $1 back out again when they sell shares—with, perhaps, a tiny bit more confidence a few months from now.