Friday, July 20, 2012

Paper making the rounds... regarding Money Market Funds.  If ever a sector of an industry were under attack, it is MMFs considering the recent LIBOR, et al.

The problem with the proposed reforms below is, of course, pricing this new lack of liquidity into an already low-margin business.

This paper introduces a proposal for money market fund (MMF) reform that could 
mitigate systemic risks arising from these funds by protecting shareholders, such as retail 
investors, who do not redeem quickly from distressed funds. Our proposal would require 
that a small fraction of each MMF investor’s recent balances, called the “minimum 
balance at risk” (MBR), be demarcated to absorb losses if the fund is liquidated. Most 
regular transactions in the fund would be unaffected, but redemptions of the MBR 
would be delayed for thirty days. A key feature of the proposal is that large redemptions 
would subordinate a portion of an investor’s MBR, creating a disincentive to redeem 
if the fund is likely to have losses. In normal times, when the risk of MMF losses is 
remote, subordination would have little effect on incentives. We use empirical evidence, 
including new data on MMF losses from the U.S. Treasury and the Securities and 
Exchange Commission, to calibrate an MBR rule that would reduce the vulnerability of 
MMFs to runs and protect investors who do not redeem quickly in crises.

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