The SECs Attempted Use Of Money Market Mutual Fund Shadow Prices To Control Risk Taking By Money Market Mutual Funds

Abstract

One of the major advantages of money market mutual funds as a short term cash investment vehicle is that they are always purchased and sold for $1 per share. That constant $1 share price is maintained, despite the obvious fact that the funds holdings are frequently changing value, through a permissive SEC regulation that entitles money funds to value their portfolio securities at amortized cost rather than market value. At the same time, funds have always monitored their true market value in what is referred to as the funds shadow price, disclosed on a semi-annual basis. Starting in December, 2010, the SEC ordered money funds to publish their shadow prices monthly in hopes that investors would take notice and provide market discipline to money funds that failed to keep the funds market value sufficiently close to $1 per share. The expressed intention of the SEC was that investors would restrain money market fund managers from taking undue risks.

This study analyzes whether the SECs strategy is working. By assessing the relationship between money market funds shadow prices and subsequent changes in net assets, the authors can look for evidence of whether the market is performing the function the SEC intends. The authors have examined monthly disclosures of shadow prices and asset changes for over 100 money market funds since the funds commenced reporting. Through a series of linear regression analyses, the authors have found no relevant correlation between money funds shadow prices and investor activity.

The ramifications of this lack of correlation are potentially significant, particularly now as financial regulators are concerned that money fund holdings of European banks might transmit the current credit deterioration in Greece to U.S. markets. The SEC and other financial regulators are counting on disclosure of shadow prices as a tool to avoid the kind of risk taking that ultimately contributed to the credit market freeze experienced in 2008. If that tool is, in fact, not working, the SEC may be obliged to attempt alternative strategies. The authors discuss the policy implications of their findings.