...today 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.