The next reform target for global investment fund regulators may be money market liquidity, Fitch Ratings says.
In a research note, the rating agency said that the liquidity stress experienced by some money market funds during the turmoil touched off by the Covid-19 outbreak points to money market liquidity as a possible focus for future reform.
During the initial market meltdown, some money market funds had “elevated redemptions, price volatility and limitations on the ability to sell securities,” Fitch noted.
Similar market stress during the 2008 financial crisis ultimately led to “significant regulatory changes” for money market funds, Fitch said, adding that “scrutiny by regulators has increased as a result of the market turmoil this year.”
Eventually, this may lead to regulatory reform, Fitch said.
For instance, Fitch said that in March, some funds “chose to sell assets rather than use available weekly liquidity assets to mitigate any adverse investor reaction,” which shows that existing liquidity buffers “are not functioning entirely as intended.”
“Regulators may consider changes to minimum liquidity requirements, particularly in connection with trigger points for fees and gates, according to discussions among market participants,” Fitch said.
Additionally, Fitch suggested that other possible changes could include “outright bans on certain types of [funds], changes to liquidity fees and redemption gates, and changes to net asset value collars (for certain European funds).”
Regulators may also consider reforms that focus on securities dealers, after finding that they “stepped back from their traditional role intermediating short-term markets earlier this year, impacting liquidity.”
“Without market structure changes to incentivise dealers to continue to intermediate in the short-term markets during stress periods, the materiality of regulatory changes to [money market funds] may have a limited impact on market liquidity,” Fitch said.
“However, if market structure changes are implemented that support secondary market liquidity and facilitate [funds’] ability to sell securities, Fitch would view these changes positively,” the rating agency added.