Falling leaves: autumn's US money market fund regulation

Back in July, the Securities and Exchange Commission (SEC) announced new rules for US money market funds (MMFs). Now published in the federal register, these amendments will be live from 2 October, with staggered compliance dates over the next 12 months. 

In this blog, the first of a two-part series, we take a look at the regulation, what it means for US MMFs and short-term markets, and the potential implications for investors.

Why now?

We’ve already seen wide-ranging changes to US MMF regulation, back in 2016. These alterations mainly addressed the need for US authorities to intervene in short-term funding markets in extreme circumstances, such as during the global financial crisis of 2008.

Emergency measures introduced then, specifically the Money Market Mutual Fund Liquidity Facility (MMMLF), were – somewhat reluctantly – leaned on again in March 2020. This time, it was to unblock short-term markets, which had become clogged due to large outflows from prime MMFs, and largely diverted into government MMFs.

This resulted in the sale of short-term instruments by prime MMFs to maintain minimum weekly liquidity buffers specified in the new regulation.

What’s new?

The changes apply to different types of US MMFs. They:

1. Remove the link between minimum weekly liquidity assets and the application of liquidity management tools (LMTs)

The regulatory link between liquidity fees and weekly liquid assets (WLA) will be removed and replaced by mandatory liquidity fees. US MMFs will no longer be permitted to suspend redemptions (except for funds going into liquidation under rule 22-e). These rules come into play on 2 October 2023 (with immediate implementation).

2. Higher minimum liquidity thresholds

Minimum daily liquidity will increase from 10% to 25% of fund value, and weekly liquidity (weekly liquid assets, or WLA) from 30% to 50%. These thresholds are effective on 2 April 2024 (six-month implementation period).

3. Liquidity fees

Institutional prime and tax-exempt MMFs will be required to charge a liquidity fee to redeeming investors on any day where net redemptions exceed 5% of fund value. These fees come into force on 2 October 2024 (12-month implementation period).

There is a de minimus threshold of 0.01%, below which no fee is required, however, and as the cost of liquidity for a fund with greater than 50% in weekly liquidity is likely to be below the de minimus threshold under normal market conditions, it’s likely these fees will only become relevant under stressed market conditions.

Additionally, there will be some change to stress-testing and the way that weighted average maturities and lives are to be calculated. The SEC also confirmed that stable net asset value (NAV) MMFs can make use of share cancellation in the event of negative yields (subject to certain disclosures).

What’s the investor impact?

We expect the implementation of mandatory liquidity fees to reduce the attractiveness of US institutional prime and tax-exempt MMFs for investors, with associated implications for the banks and municipalities that issue the short-term instruments that these funds purchase.

US retail prime MMFs may increase in popularity, however. Now that the link between WLA and LMTs has been removed for all US MMF types, they won’t be subject to the mandatory liquidity fee requirements.

However, it’s important to recognise that since the 2016 US MMF regulation, institutional prime and tax-exempt MMFs have made up a much smaller proportion of total US MMF assets (c.8% compared to c.37% prior to 2016), as you can see in the chart below (blue sections).

The new higher minimum liquidity requirements are significant, but broadly US MMFs already meet this new requirement today.

An increase in US MMF AUM captured the headlines in March 2023, against a backdrop of concerns about the health of US regional banks and higher interest rates. AUM has increased steadily, roughly doubling, over the past decade.

The verdict

The new regulations are intended to improve the resilience of US MMFs during periods of market stress, and reduce the likelihood that authorities need to intervene in short-term markets.

While the attractiveness of US Institutional Prime and Tax Exempt MMFs will be reduced due to the uncertainty around the application of mandatory liquidity fees, these proposals will strengthen the resilience of US MMFs overall, and more fairly apply any cost of liquidity to redeeming investors during periods of market stress.

For more insights into the evolving regulatory picture for money market funds, watch this space for our second blog about MMFs domiciled in the UK and EU.