Money market fund reform has arrived in Europe
In 2008, the G20 agreed to reform the regulatory framework for MMFs. As a result, the European Commission worked on proposing new legislation. The legally binding regulation was finally published on 30 June 2017 in the Official Journal of the European Union, and at the end of 2017, ESMAs Technical Guidelines were also released. The new requirements kick in for newly issued MMFs on the 21st of July 2018, and for existing MMF on 21st of January 2019.
Key aspects of the reform
After the 2008 financial crisis, MMFs were strengthened against financial distress by having to secure their liquidity, reduce credit risk, implement diversification requirements and provide a clear framework of eligible assets. There are two different classes of MMF: Short-term MMFs and Standard MMFs. Within these classes a MMF can now belong to one of these categories:
- Public Debt Constant Net Asset Value (CNAV)
- Low Volatility Net Asset Value (LVNAV)
- Variable Net Asset Value (VNAV) MMF
Low Volatility NAV MMF are now introduced within the MMF reform and only allowed as Short Term MMF. Public Debt Constant NAV MMF also must be a Short Term MMF, however Variable NAV MMF can be either of the fund types.
A comprehensive framework regarding liquidity management, credit quality, limitation of credit risk against single issuers and definition of criteria for eligible assets are established. For CNAV and LVNAV MMF redemption constraints and liquidity fees may be applied. Back in 2010 CESR already issued a guideline covering the basis of these requirements. However now they are extended and enhanced in many areas.
Overview of investment restrictions
The rules defined within the reform cover the definition of eligible assets and criteria for eligible money market instruments, including eligible target MMFs. This includes a ban on investments in dedicated asset classes like equities or commodities. In addition, principles for eligible securitizations and Asset Backed Commercial Papers (ABCP) are given. Investment restrictions for deposits, derivative instruments and repurchase agreements are also added. One focus of these rules is to set up criteria that counterparties need to fulfill. Supplemental, speculative usage of derivatives and short sales are strictly forbidden.
The MMF reform does not only limit the investment horizon of MMFs in these areas, it also adds diversification requirements limiting the risk against single issuers and counterparties. Parts of these defined limitations may be exceeded for dedicated issuers in a similar way as defined under the UCITS directive.
Already existing requirements for weighted average maturity (WAM) and weighted average life (WAL) (defined in CESR/10-049) are still relevant. In addition, these so called “Portfolio rules” are enhanced with minimum liquidity requirements: Now a minimum of the fund assets must be invested in daily and weekly maturing assets, while requirements for short term MMFs are more strict compared to requirements for standard MMFs. All these different requirements lead to a bundle of over 60 different investment restrictions that must be validated for MMFs soon.
How to deal with this regulation – the SimCorp way
As a result of this reform, money market funds should become more stable and resistant against financial crisis. However, the comprehensive set of requirements must be evaluated in detail and be implemented in an IT application. With the Legal Rule Set Service (LRSS), experts from our Regulatory Center of Excellence help clients set up the investment restrictions for MMFs in a smooth way. This service lets you free up internal resources and reduce your compliance costs by providing six key elements.
Within LRSS, the regulatory environment for MMFs is monitored constantly and new requirements for MMFs are analyzed. Based on this analysis, the rules which need to be coded in SimCorp’s Compliance Manager have been defined. SimCorp is in constant contact with its user community and shares the outcome of this evaluation and required rule configuration with them. Using this service, affected clients can free up resources, as major parts of the solution are provided for them.
Based on the standardized configuration for newly defined investment restrictions for MMFs, SimCorp will also enhance its regression and release upgrade tests, providing all the relevant information and standardized configuration elements not only as a one off, but instead regularly updating the online documentation.
Want to learn more?
Please contact SimCorp’s Regulatory Center of Excellence if you’d like more information about the MMF reform and SimCorp’s Legal Rule Set Service ([email protected]).