Wall Street firms and trade groups are warning that the Financial Stability Oversight Council’s proposed stiffer regulations for the $2.7 trillion money-market mutual fund industry would be a lose-lose proposition for financial advisors and investors.

In more than 100 letters to the FSOC, established by Congress two years ago to try to avert future financial crises, industry representatives said the regulations would be costly to advisors and could cost consumers, as well, by scaring them into unregulated investments. The official comment period ended last Friday, but regulators routinely accept submissions after the formal deadline.

On the impact to the industry, many letters said the rules could turn profit-making firms into money-losing businesses, resulting in some shutdowns and significant job loses.

The commenters also regularly stated that the rules would limit cash-management options for the public and especially for small businesses, which have a profuse number of proponents in federal regulatory agencies and Congress who view them as key job creators that need to be nurtured.

Worried the Securities and Exchange Commission wasn’t moving fast enough to rein in potential calamities for the funds, in November FSOC offered three proposals for public debate: a floating net asset value, a 1 percent NAV buffer and a 3 percent NAV buffer.

 “The proposals, particularly if applied broadly across all types of funds, would have a devastating effect on the money-market fund industry (and) render an enormously popular product much less appealing to individual investors,” said Charles Schwab.

If implemented, a proposal for a broad requirement that all funds float their net asset values would lead to a flight to less regulated products or to banks, Schwab contended.

But while Schwab’s company-owned bank would seem to be a beneficiary, the investment house said that unit could lose because the influx of funds would increase demand-deposit insurance requirements and boost bank-capital obligations.

In its comment letter to the council, Schwab said it is pulling back its blanket opposition to a floating NAV and now would support considering it for the kinds of money market funds most susceptible to runs and the kinds of investors most likely to trigger runs.

Schwab opposed the concept of a “minimum balance at risk,” which would require that 3 percent of funds be held for a minimum of 30 days. Schwab said the provision was unworkable for individual investors because it could be confusing and complex because many people deposit and withdraw funds daily and more often.

“It would be nearly impossible for these investors to use such a product to manage their cash in any efficient or reasonable way,” said Schwab.

The firm said more robust analysis is needed to determine where the proposed rules would cause cash investments to flow and the impact that movement would have on cash management and financial stability for investors, business and the markets.

Also calling for more study, the Securities and Financial Markets Association (Sifma) urged the FSOC not to pre-empt the SEC on money-market mutual fund rules because the securities regulator would be more precise, flexible and productive.

The securities industry trade group added its voice to a chorus of industry commenters in asking that any changes to money fund regulation be narrowly tailored to avoid unnecessary disruption.

“Tailoring reform narrowly will benefit markets by easing the process of adjusting to changes, and providing a basis to evaluate the need for further actions based on the results achieved. Prudence requires an incremental process,” Sifma said.

The organization questioned the need for tighter regulation because, as it noted, the SEC staff has acknowledged that financial distress at money market funds has not triggered industry-wide redemptions at money market funds, with the exception of The Reserve Primary Fund at the height of the financial crisis of 2008.

By contrast, the CFA Institute said the size and market conditions of the money-market mutual fund industry create a potential for widespread risk that must be addressed.

One possible aid, said the group, could be market-wide circuit breakers that would trigger relevant redemption mechanisms in certain circumstances deemed as a “liquidity event.” The institute sees that as a systemic risk protection that is preferable to the use of buffers and other changes to fund structures that would be required at all times.

The Investment Company Institute, which represents the mutual fund industry, said advisors would suffer if NAV buffer requirements are imposed because they would have the added costs of essentially guaranteeing a fund, and in the current low interest rate environment, they could not pass those costs to customers.

“Advisers would have to earn a market rate of return on such capital. If they cannot earn that rate of return, they would find better business alternatives, such as seeking to move investors to less-regulated
cash management products where investors still must bear the risks of investing,” ICI said.

Northern Trust, which focuses on the wealthy, said it doubted the proposed regulations could achieve the goal of materially lowering systemic risk and providing investors with the range of investment alternatives they have come to expect.
 
“We believe certain other measures, including increased disclosures, and gating and liquidity fees in times of severe market stress, are better calibrated to achieve balanced systemic risk reduction for money market funds while preserving investor choice,” Northern Trust said.

The firm noted the 2010 additional regulations accomplished many of the goals that are targeted in the new regulations, including reducing credit and liquidity risks for the funds and improving fund transparency for investors and regulators.

In opposing a floating NAV, Northern Trust predicted 50 percent to 75 percent of assets currently in money market funds would move to stable net asset value products and banks.

The Financial Services Roundtable faulted the FSOC for inadequately examining the “long recognized” operational, accounting and tax issues in the proposals.

If the rules are adopted, widely expected withdrawals from money market funds could lead to higher borrowing costs for businesses by reducing the demand for commercial paper from the funds, the roundtable said.

T. Rowe Price said one way of achieving the FSOC’s aim of giving investors knowledge about their potential loss of principal in money market funds without hurting this type of investment would be to require daily publication of NAVs.

The U.S. Chamber of Commerce labeled the total package as a bad idea.
“The proposal’s recommendations would destroy the utility of money market mutual funds and precipitate the very run on funds by corporate investors that the proposal is intended to prevent,” the chamber said.