Tuesday, September 16, 2008

Money Market Fund Halts Sales

During the auction rate securities crisis, when investors were complaining that no one told them that the auctions could fail, or that their investment might be illiquid, I often commented that the reason no one told them that was that auctions hadn't failed in decades, and the possibility was remote. I would then ask, "has anyone told you that your money market funds might not be liquid? Has anyone told you that your money market funds might go below a dollar a share?" The answer is always "No."

Well, both events can happen. We treat money market funds as cash - a completely liquid investment that you can cash in at any time, write a check against any time you want, just like cash in your checkbook. But it just ain't so. Read a prospectus for a money market fund. Those funds are not federally insured, and they could go below $1 per share, and there could be a freeze on liquidations.

We don't think about it, because it never happens. In my 25+ years working with the securities industry, I vaguely recall one money market fund going under a buck, and I also recall that the firm that ran the fund put additional money in to bring the NAV back to a dollar.

Liquidation freezes on money market funds just don't happen. Money market funds with an NAV of less than a dollar just don't exist.

Oh yes they do on both counts. MarketWatch is reporting that one of the largest money market funds has put a seven-day freeze on investor redemptions after the net asset value of its shares fell below $1, a rare event known as "breaking the buck."

According to MarketWatch, Primary Fund, a $64 billion fund managed by money market fund inventor The Reserve, said late Tuesday that its $785 million holding of Lehman Brothers Holdings debt has been valued at zero.

As of 4 p.m., the value of the fund's share was 97 cents.

This is a very significant event, and perhaps it will correct itself if Lehman's assets get sold, and its debt instruments regain their value, but the fact that it happened is going to cause tremors throughout the investing community.

One has to question why a money market fund is holding debt of a public company, rather than government bonds, and that in and of itself may lead to some significant lawsuits, depending on the disclosures made in the prospectus. And it also raises questions of where the heck is the SEC on this. They have been asleep at the wheel through all of this, and are apparently still sleeping.

Still, it is still not time to panic. It seems that The Reserve is a pure money market house, without sufficient cash to pump into a failing fund. Not so everywhere else.

According to the article, the large fund families are not having this issue. The article says that Fidelity Investments said that it was not having problems with its money market funds, and quotes a Fidelity spokesperson - "[w]e can state unequivocally that Fidelity's money market funds and accounts continue to provide security and safety for our customers' cash investments," and "[w]e have been proactive in keeping our money market funds safe and in protecting the $1 net asset value, which has always been our number one objective in managing these funds."

Hopefully that is a true statement, but in the interim, anyone have a prospectus for Primary Fund?
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