Can You Trust Your Money Market Fund

By Pam Martens: November 9, 2012

Mary Schapiro, Chair of the SEC

Millions of Americans have no idea that there is a world of difference between money market accounts and money market funds. Two extremely critical words define the difference: FDIC insurance. 

Money market accounts are offered by FDIC insured banks and extend the Federal Deposit Insurance Corporation (FDIC) umbrella of protection to the accounts.  Money market funds are a mutual fund where the values of the pooled investments can fluctuate and the investor is not insured against loss.  Now that banks and brokerage firms are housed under one parent since the repeal of the Glass-Steagall Act, both types of accounts may be offered to the customer by the firm and the distinction is not always spelled out. 

The confusion seems to be intentionally aided by the fact that money market funds are permitted to perpetually price at a stable $1 per share, making it appear that the principal is completely safe and never fluctuates, as it does in stock and bond mutual funds. But that’s a deception that is denying American investors the right to transparency with their investments and the right to make informed decisions. 

After Lehman Brothers failed on September 15, 2008, the Reserve Primary Fund, a so-called prime money market fund with $62 billion in assets, “broke the buck,” meaning its value dropped below the $1 per share level. That caused a panic. The U.S. Treasury was forced to step in and provide its guarantee to $3 trillion residing in non transparent money market funds. 

And here we are, four years later, with money market funds still misleading investors with that $1 per share pricing and holding an unfair competitive advantage over non Wall Street banks offering lower yielding but FDIC insured money market accounts

Back on June 21 of this year, SEC Chair, Mary Schapiro, testified before the Senate Banking Committee, laying out the depth of this 40-year deception.  Schapiro testified that money market funds have broken the buck at least 300 times since their inception in 1970 and 100 of those occasions occurred in the crisis month of September 2008. In all 300 occasions, the sponsors added their own funds to shore the money market back up to $1 a share. These were some of the events that caused money market fund assets to slip below $1:

  • Default of Integrated Resources commercial paper in 1989;
  • Default of Mortgage & Realty Trust and MNC Financial Corp commercial paper in 1990;
  • Bankruptcy of Orange County in 1994;
  •  Downgrade and eventual administrative supervision by state insurance regulators of American General Life Insurance Co in 1999;
  • Default of Pacific Gas & Electric and Southern California Edison Co. commercial paper in 2001;
  • Investments in SIVs, Lehman Brothers, AIG and other financial sector debt securities in 2007-2008

Schapiro explained to the Senate how the panic run spread in 2008 from the Reserve Primary Fund to other market participants. The Reserve Primary Fund held $785 million in Lehman Brothers debt on the day of Lehman Brothers’ bankruptcy filing. The Fund immediately began experiencing a run. Shareholders requested redemptions of approximately $40 billion in just two days.  That represented 65 percent of the fund. The Reserve Primary Fund announced that it would re-price its shares below $1, or break the buck. The panic spread, first to the Reserve’s family of money market funds, and then to other money market funds. Investors withdrew approximately $300 billion (14 percent) from prime money market funds during the week of September 15, 2008. 

Other money market funds were forced to meet their redemption demands by selling their security holdings into markets that were already under stress with values depressed from heavy selling pressure. This panic then spread to the commercial paper market because money market funds began to hoard cash in order to meet redemptions and stopped rolling over existing positions in corporate commercial paper. “In the final two weeks of September 2008,” says Schapiro, “money market funds reduced their holdings of commercial paper by $200.3 billion, or 29 percent.” 

Schapiro notes that the retreat from the commercial paper markets by money market funds “caused them to freeze. During the last two weeks in September 2008, companies that issued short-term debt were largely shut out of the credit markets.” 

On August 23 of this year, Schapiro informed the public that her hands were tied on money market fund reform because of political deadlock at the SEC.  According to Schapiro, “Three Commissioners, constituting a majority of the Commission, have informed me that they will not support a staff proposal to reform the structure of money market funds. The proposed structural reforms were intended to reduce their susceptibility to runs, protect retail investors and lessen the need for future taxpayer bailouts.” 

I first started reporting on the toxic waste that was being dumped into money market funds on November 7, 2007, writing as follows: 

Now, once again, one of the most troubling aspects of the current Citigroup debacle that has gone unreported is the extent to which these opaque and convoluted debt instruments managed by Citigroup, called CDOs (collateralized debt obligations), got dumped into Cayman Islands SIVs, transmuted into AAA-rated commercial paper, landed in the so-called safe money market funds in the U.S., including an astonishing amount at Citigroup’s competitor, Merrill Lynch. 

According to Standard & Poor’s Structured Finance research reports, Citigroup is managing the following Structured Investment Vehicles (SIVs), incorporated in the Cayman Islands and not consolidated on Citigroup’s balance sheet: Centauri Corp., Beta Finance Corp., Sedna Finance Corp., Five Finance Corp., and Dorada Corp. In addition, according to press reports, Citigroup created two more SIVs as recently as November 2006: Zela Finance Corp. and Vetra Finance Corp. These SIVs contain approximately $80 billion in what is increasingly being viewed as toxic debt. 

Knowing the history of Citigroup and knowing the safety and liquidity requirements for money market funds, how did one of the oldest and most sophisticated firms on the street, Merrill Lynch, end up with a boatload of this SIV paper in its various money markets? The most troubling of its money market exposure as of its July 31, 2007 filing with the SEC is its Citigroup managed SIV commercial paper positions in what one would think would be the safest of all its money market funds, the Merrill Lynch Retirement Reserves Money Fund. Merrill’s SEC filing shows $52.9 million in Beta Finance, $53 million in Five Finance, $10 million in Sedna Finance, and $10.7 million in Zela Finance. 

Does Congress see the urgent need for reform? No.  Does the SEC? No.  But, fortunately, Occupy the SEC and Occupy Wall Street’s Alternative Banking Working Group does.  Showing an insightful and comprehensive grasp of the problem, the two groups sent a joint letter to Mary Schapiro at the SEC and Tim Geithner, U.S. Treasury Secretary on November 5, 2012.  

The Occupy groups expressed alarm “by revelations in the press on Friday, October 26 of closed door meetings between the SEC, Treasury and members of the fund industry.  Closed meetings are especially troubling given press reports of the role that industry played in forestalling the SEC’s proposed reforms this summer.  While the lack of public information on these meetings reduces us to speculation as to their content, the fact that one industry participant went so far as to call the leak of these talks ‘counterproductive’ indicates an environment that runs counter to the spirit of regulation for the public good.” 

As President Obama begins to set priorities for his next four years in office, getting serious about reforming Wall Street must become a top and genuine concern. 

Occupy the SEC Letter On Money Market Funds, November 5, 2012

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