On 23 May 2022, the FCA, jointly with the Bank of England, published Discussion Paper 22/1 ‘Resilience of Money Market Funds’ (DP22/1). At the same time the FCA published Finalised Guidance 22/3 ‘Finalised Guidance (non-Handbook) on parts of the UK MMF Regulation’ (FG22/3).
Money market funds (MMFs) are a type of open-ended investment fund (OEF) used in many jurisdictions. In the UK, they are authorised by the FCA under the UK Money Market Fund Regulation (UK MMFR). During the COVID-19 pandemic MMFs came under severe strain across major currencies, including in sterling, as investors quickly sought access to cash. Without the quantitative easing introduced by some central banks redemption pressure on MMFs may have continued. In October 2021 the Financial Stability Board (FSB) issued a final report on possible policy proposals to enhance MMF resilience. FSB members, including the UK, agreed to assess and address the vulnerabilities that MMFs posed in their jurisdiction.
DP22/1 is a contribution to an assessment of the vulnerabilities in MMFs and how much they contribute to risks to UK financial stability and investor protection. It aims to contribute to the debate about how to reduce such risks while also ensuring that the structure of the financial system and UK market support the needs of the real economy in a sustainable and robust way. It aims to gather views to inform the UK authorities’ development of MMF reform proposals, and where possible, to set out the UK authorities’ initial views on the possible effectiveness and proportionality of some reform options.
Chapter 4 of DP22/1 discusses the set of policy options the FSB proposed to enhance MMF resilience. Where possible, the UK authorities’ put forward their initial thinking on the possible effectiveness and proportionality of those options. The policy options discussed include:
- Asset-side reduction in liquidity transformation: reducing liquidity transformation by requiring MMFs to hold more liquid assets.
- Removal of threshold effects related to liquidity levels, and usability of liquidity resources – removing all links between specific liquidity levels in certain types of MMFs and the formal need for the manager to consider or impose fees, gates or suspend the fund.
- Impose on redeeming investors the cost of their redemptions – minimise the first mover advantage for redeeming investors by imposing the true costs of their redemptions.
- Removal of stable net asset value.
- Liability side reduction in liquidity transformation – adjusting the redemption terms of MMF shares, rather than increasing the liquidity of their assets.
- Issues related to investor concentration – impose hard investor concentration limits to reduce the risk that redemptions from a single large investor might trigger distress in a particular MMF.
- Polices to absorb losses – addressing the prospect of losses which may lead to investors pre- emptively redeeming.
- Issues related to the underlying short term funding markets (STFMs) – how structural reforms of some parts of the STFMS may be able to benefit those markets and have a positive indirect effect on MMF resilience.
The deadline for responding to DP22/1 is 23 July 2022.
The UK authorities will consider the feedback received in deciding whether to formally consult on one or more MMF reform proposals.
In FG22/3 the FCA provide guidance on the:
- Requirements in UK MMFR article 34(1)(a) for public debt Constant Net Asset Value (CNAV) MMFs and Low Volatility Net Asset Value (LVNAV) MMFs, and the portfolio requirements in UK MMFR articles 24 and 25 which, together, apply to all UK MMFs. Article 24 applies to short term MMFs (public debt CNAV MMFs, LVNAV MMFs and short term Variable NAV (VNAV) MMFs), and Article 25 applies to standard VNAV MMFs.
- Portfolio requirements in UK MMFR articles 24 and 25 which, together, apply to all UK MMFs. Article 24 applies to short term MMFs (public debt CNAV MMFs, LVNAV MMFs and short term Variable NAV (VNAV) MMFs), and Article 25 applies to standard VNAV MMFs.
The FCA also notes in FG22/3 that there may be views in the market that under the UK MMFR, LVNAV and public debt CNAV MMFs whose liquidity falls under the 30% minimum for weekly maturing assets must impose fees or gates. The FCA states that this is incorrect.
The FCA also reminds market participants that, as per UK MMFR articles 24 and 25, if a MMF’s liquidity ceases to meet the portfolio requirements, then the MMF manager needs to prioritise the correction of that situation, taking due account of the fund investors’ (unitholders) interests. When deciding remedial action, the MMF manager will need to balance the speed at which it can return the fund to a position where the relevant portfolio requirements are satisfied against investor outcomes. The FCA also notes that articles 24 and 25 also provide for and envisage that MMFs may drop below the minimum liquid asset requirements due to the exercise of subscription or redemption rights, or for reasons beyond the manager’s control.