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June 7, 2013

A Reform Beginning at the SEC

“Is the taxpayer safety net under American finance finally, just possibly, starting to shrink? On Wednesday the Securities and Exchange Commission took a step toward reform, even as it reminded taxpayers how far it has to go to ensure that the 2008 rescue of money-market mutual funds is never repeated.

A unanimous commission voted to propose floating share prices for a large category of money-market funds. If commissioners enact a final rule later this year, funds catering to large institutional investors and holding corporate debt would be required to report accurate prices in real time, just as in other securities markets. The idea is to underline for investors that money-fund values can fluctuate, and a modest decline is no reason to panic or call the Treasury Secretary for help.

For decades, SEC rules have allowed fund companies to report fixed values of $1 per share, even if the underlying assets of a fund were worth slightly more or less. This accounting fiction encouraged investors to view their money funds as cash balances akin to guaranteed bank deposits.

To further encourage the illusion of risk-free investing, the SEC also required funds to invest only in assets rated highly by the government-approved credit ratings agencies, including Standard & Poor’s, Moody’s and Fitch. Come the financial crisis, investors learned that the idea that money funds never “break the buck” (never lose value) was a marketing slogan, not a federal law. After bad bets on Lehman Brothers debt caused the underlying assets of one fund, Reserve Primary, to slip below $1, institutional investors began fleeing Reserve and other “prime” funds that held corporate debt. The federal government responded by slapping a temporary guarantee around the whole industry.”

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Read the full Wall Street Journal article here

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