​Liquidity Management

Liquidity Management in a Changing Regulatory Environment

Company treasurers appreciate bank deposits as one of the safest and most liquid positions in which to park cash needed on short notice to pay suppliers, replenish inventory, make payroll, or to fund a merger or acquisition. Bank deposits were made especially attractive on Dec. 31, 2010, when the Dodd-Frank law established temporary unlimited deposit insurance for non-interest-bearing transaction accounts at all FDIC-insured depository institutions. But when that provision expired at the end of 2012 and FDIC insurance returned to the previous $250,000 per depositor, treasurers began to consider alternative positions.

Today, money market mutual funds, which have traditionally been preferred for their ability to balance capital preservation, yield, and liquidity, are taking a greater share of treasurers’ cash. These funds are of particular benefit to middle market companies because the fund managers offer research, risk analysis, and diversification – a “50,000-ft. view” – to which a lean treasury staff may not have access. But as company treasurers put more cash into these instruments, experts caution of the potential regulatory changes that could affect their investment strategies.

While no major rule changes involving money market mutual funds are imminent, that hasn’t stopped legislators and regulators — from former SEC chairwoman Mary L. Schapiro to the U.S. Treasury’s Financial Services Oversight Council — from proposing reforms, including changing the accounting method used to value money market mutual funds to the variable net asset formula. The money market industry generally opposes such a move on the grounds that allowing share values to float would affect the predictability and simplicity of the current system, where the value of each share is always based on, and rounded up to, one dollar. Moreover, many current treasury management software systems are not compatible with variable net asset products.

“Over the years, corporate treasurers have voted with their dollars and avoided instruments that have a floating net asset value such as enhanced cash funds and ultra short bond funds,” says Jacob Nygren, senior manager at treasury management consulting firm Treasury Strategies Inc. in Chicago. “Those products haven’t attracted anything close to the $2.6 trillion that is currently invested in money market mutual funds.”

The Federal Reserve has proposed a “minimum balance at risk” requirement that would require funds to hold back a portion of an investor’s money for 30 days after the initial redemption, supposedly to dissuade a run on the fund if trouble is suspected and to absorb losses if the fund is liquidated.

From the company treasurer’s perspective, however, the rule would force them to drag out their crystal balls. “If I know that a portion of my money is going to be held up for 30 days when I redeem, it’s going to make me look ahead for anything that might risk my investment — and if there is, I’ll be motivated to pull my money out sooner, at the first hint of any problem,” says Nygren. “Companies use money market mutual funds because they are liquid. If your CFO needs access to cash, you can’t tell them to wait 30 days. That’s not the discussion you want to have.”

A third proposal that has been floated in the industry is for money market mutual funds to maintain a capital buffer that would “mitigate the incentive for investors to run, since there would be dedicated resources to address any losses,” Ms. Schapiro told InvestmentNews in 2011. Critics warn that this action would squeeze yields in an already tight market, push increased costs off to investors (the buffer has to come from somewhere), and pose a “moral hazard” issue.

“If I am a fund manager competing against other fund managers for assets in the marketplace, and if I know that I have capital buffer to fall back on, I have an incentive to take on more risk to gather more assets rather than focusing on my main responsibility of managing that risk in the best interest of my investors,” Nygren says.

Nygren says company treasurers must stay abreast of regulatory issues and be prepared to shift their strategies to maintain safety and liquidity. “If reforms go through, middle market and smaller companies could suffer because they don’t necessarily have large staffs or the expertise to properly manage their entire portfolios in-house,” he says. “Fund managers and company treasurers must actively lobby regulators to let them know how important money market funds are to daily cash management.”


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