July 27, 2010 / 1:36 PM / 9 years ago

U.S. money funds cope with changes, wary of more

BOSTON, July 27 (Reuters) - U.S. money market funds have been coping with a sweeping set of regulatory changes this year and are wary of more in the coming months.

Persistently low interest rates, the European sovereign debt crisis and a tight supply of investments have intensified the headache for the $2.5 trillion industry, analysts and investors said on Monday at a conference here sponsored by research firm Crane Data LLC.

More changes will likely further restrict the types of securities that funds can buy and drive investors into alternatives like bank accounts to park their cash.

For borrowers like local governments and banks, which rely on money funds to buy their debt, there are concerns that more stringent rules will likely pare demand and raise borrowing costs.

“There’s been a lot of action, but we still don’t know how the final innings will play out,” said Paul Schott Stevens, head of the Investment Company Institute.

The Securities and Exchange Commission’s toughened rules are intended to safeguard money market investors after the demise of Lehman Brothers. Lehman’s failure caused the collapse of one of the oldest money market funds and roiled the fund industry during the height of the global credit crisis in autumn 2008.

Since the end of May, money market funds need to hold far more low-risk assets, in particular U.S. Treasury bills, and their average maturity cannot be more than 60 days.

In the coming months, money market funds will continue to defend against calls for funds to allow a fund’s share value to fluctuate. A stable $1 per-share value is the cornerstone of the nearly 40-year-old industry and has allowed the funds to market themselves nearly as safe as bank savings accounts.

In September 2008 the Reserve Primary Fund “broke the buck” when its per-share value fell below $1 as its Lehman investments soured.

The Obama administration has a working group studying money market issues, which ICI’s Stevens called “the biggest potential game changer.

“The idea of floating these funds’ value is likely to be discussed in the President’s Working Group report,” he said.

Other looming industry issues include the reporting of “shadow” net asset value (NAV) and fallout stemming from the recently enacted federal financial regulatory overhaul, analysts and investors said.

In early 2011, a money market fund will have to report with a 60-day lag its per-share value, which can be fractionally above or below $1.

Parts of the financial regulatory overhaul bill may end up making certain investments like repurchase agreements less attractive for dealers to undertake. Fewer repos mean less investments for money funds to buy, analysts said.

The regulatory climate for money market funds is “punitive, even adversarial,” said Joe Abate, money market strategist with Barclays Capital.

Despite the challenges for the industry, there have been bright spots, such as a modest pickup in yields from earlier this year and the containment of the European debt crisis in the wake of the release of the stress test results of the region’s banks on Friday.

Another sign that the worst for the industry may have passed was a lighter atmosphere at the conference, according to participants.

“At least we are not dead,” joked Alex Roever, short-term fixed income strategist at JP Morgan Securities.

Editing by Padraic Cassidy

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