Watch Out! Your Cash Can Disappear From a Money Market Fund

Posted by Rob Zurrer for Money Talks

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All over Europe right now Banks are going Bankrupt, Governments are flat broke or worse, and currencies are all over the place. Now the US Federal Reserve thinks some US Money Market Funds are so wobbly they are considering limiting the amount of money an investor can withdraw from them.

European institutions are so stricken that currently investors are actually paying a financially secure Germany to take their money. These financial storms in Europe and the US are creating waves that could smash against Canadian shores at any moment, so now might be a good time for an investor to examine their exposure to Money Market Funds. A startling line from a Fed Official in the artice below: “The delay would ensure that redeeming investors remain partially invested in the fund long enough to share in any imminent portfolio losses or costs arising from their redemptions,”

Fed Eyes Limiting Money-Market Fund Withdrawals
NEW YORK–The Federal Reserve Bank of New York said it supports limiting some types of money-market fund withdrawals in a bid to protect those funds from suffering the equivalent of a bank run.

The recommendations came from a staff report released Thursday. New York Fed President William Dudley in a press release accompanying the document said he “strongly” endorses the ideas put forth by authors Patrick McCabe, Marco Cipriani, Michael Holscher and Antoine Martin.

“Further reform of money funds is essential for our nation’s financial stability,” Mr. Dudley said.

The analysts propose that money-market funds could be strengthened if they were to have a “minimum balance at risk.” As envisaged by the authors, this balance “would be a small fraction of each shareholder’s recent balances that would be set aside in the event that they withdrew from the fund,” the press release said.

While regular transactions would be allowed as they are now, this special minimum balance would be locked up for 30 days. “The delay would ensure that redeeming investors remain partially invested in the fund long enough to share in any imminent portfolio losses or costs arising from their redemptions,” the bank explained.

The idea advanced in the New York Fed paper seeks to force investors to be more mindful of what they are doing with money-market fund investments. Many perceive the funds to be a very safe and liquid place to park funds. But that notion was tested during the 2008 financial crisis, and some have worried that in the current environment, money-market funds could be a prime conduit for importing Europe’s ongoing financial crisis to the U.S.

Money-market funds currently hold some $2.7 trillion in assets, according to the paper. They own, as of late 2011, around 40% of all dollar-denominated commercial paper, the New York Fed said.

The report provides fodder for Securities and Exchange Commission Chairman Mary Schapiro as she inches her divided agency toward a vote as early as this summer on a proposal to strengthen money-fund regulations. SEC officials described the New York Fed paper as a “blueprint” for the changes Ms. Schapiro would like to make.

Ms. Schapiro, joined by Federal Reserve and Treasury Department officials, sees money funds as one of the weakest links in the financial system despite reforms adopted two years ago to make the industry more resilient to widespread redemptions. Fund firms and other experts say the cash-like investments rarely run into serious trouble.

To publicly float her proposals, Ms. Schapiro needs “yes” votes from two of her four fellow commissioners. For months, three of the commissioners have said they don’t believe there is sufficient evidence additional money-fund overhauls are needed, effectively blocking the proposals’ advancement.

A number of Fed officials have been anxious about money-market funds for some time. Central bankers see the funds as a prime source of risk in large part because their structure is such that when trouble, or the fear of trouble, arises, investors have every incentive to withdraw all their funds. That can create the equivalent of a bank run.

In congressional testimony Wednesday, Fed Chairman Ben Bernanke said money-market funds are currently a potential source of financial-market instability. He expressed his support of regulators’ attempts to lower the source of risk posed by money funds.

Bottom Line, Canadians Banks are well capitalized, tightly regulated and some of the safest in the world. That said, there is no rule that say’s they can’t reinvest your cash in Banks/Corporations/Government short term paper so they can pay you a small investment return. Suddenly Money Market Funds are riskier when you consider what just happened in, Spain (small savers in Banks are losing billions of Euros), or  MF Global which filed for Bankruptcy after investing in European sovereign debt. to counter this risk, this Federal Reserve will simply prevent you from taking all of your cash from a Money Market Fund in one transaction. Oops. A Global “Bank Run” would make it extremely difficult for Money Market Funds to liquidate the short term securities it invests in so that they can pay you back promptly.

In short, no longer assume that you can always get your cash from a Money Market Fund when you want it. Moreover there is the possibility that the “cash” you have in a Money Market Fund could vaporize as it has for so many Spaniards and investors in the Broker/Dealer MF Global.                                                                                                                                                                                     

Things are getting very tough worldwide. Be sure to take the time to check on any cash you have in Money Market Funds.