MMFs: In It for the Short Term

In October 2009, the Committee of European Securities Regulators (CESR) issued a consultation that proposed the first pan-European regulatory definition of a money market fund (MMF). The consultation identified two distinct categories of money market fund: (a) short-term money market funds and (b) longer-term money market funds. Whereas the naming convention only makes reference to the maturity of the two categories, according to Gail Le Coz, CEO of the Institutional Money Market Funds Association (IMMFA), the short-term category is likely to be subject to more stringent risk limiting factors than the longer-term category.

"CESR is considering putting in WAM (Weighted Average Maturity) and WAL (Weighted Average Life) limits as well as a final maturity limit and potentially some type of credit limit, so they are going to have specific quantitative limits to manage credit and interest rate risk."

CESR’s definition of a MMF will be the first harmonised one across Europe and according to Le Coz, will bring clarity to all investors looking to place cash in MMFs.

"Following its introduction, all money market funds should have security of capital as their principal objective, whereas the relative emphasis placed on liquidity and yield may vary according to the fund’s category. Thereafter, any MMF unable to comply with the requirements of either category will no longer be able to refer to itself as a MMF, and will most likely become some sort of bonds fund as they are typically investing in fixed income instruments."

Limiting risks in money market funds

The introduction of the first pan-European definition of a money market fund will be of great benefit to investors. However, the industry has also taken proactive steps to further improve the resilience of the product. In December 2009, IMMFA revised its Code of Practice, which establishes best practice standards for the operation and management of money market funds akin to the proposed CESR short-term category. These revisions, according to Le Coz, were designed to limit the risk within a MMF, thereby ensuring that all the major sources of risk within a fund were addressed.

"Because the new code requires increased information disclosure, the impact of the code would mean that it would become simpler for Treasurers and FDs to compare funds because they would have more information. Currently, they can benchmark funds by WAM (weighted Average Maturity), assets under management and yield. Once the transitional transfer of the code is finished by the end of 2010 they will have additional information such as weighted average final maturity and the liquidity breakdown."

Providing information to investors

Whilst the final CESR guidance will create an accepted, harmonised European definition of a money market fund, Le Coz notes that it will still be possible for MMFs to be managed in somewhat differing ways. "It is important that investors consider which funds best match their objectives. The availability of appropriate information is a key determinant for potential investors looking to identify a suitable investment for any excess cash."

In order to facilitate better comparison between MMFs and greater transparency, an IMMFA MMF will shortly disclose the WAM and WAL of the fund, together with the proportion of the fund held in various ‘liquidity buckets’, e.g. overnight, one week, one month.

Increasing the amount of information available to investors not only facilitates benchmarking, it also ramps up the competition between the funds, as each fund seeks to provide the best available cash management solution. This additional competition, according to Le Coz, should help foster further evolution of the industry, thereby benefiting the end investor.