On 5 April 2017, almost three and a half years after it was first proposed in September 2013, the European Parliament (Parliament) adopted at first reading the Money Market Funds Regulation (Regulation). It is expected that the Council of the EU (Council) may formally approve the text of the Regulation at its upcoming meeting to be held over the course of 10-16 May. These steps mark the penultimate stage of a long legislative process that saw five compromise proposals published before political agreement was eventually reached in November 2016 and agreed the following month.

One of the more controversial aspects from the perspective of Irish domiciled MMFs was the European Commission’s original proposal that either a 3% capital buffer be imposed on Constant Net Asset Value MMFs (CNAV MMFs) or they would face mandatory conversion to a Variable Net Asset Value NAV MMF (VNAV MMFs). Following lengthy negotiations it was agreed not to impose this requirement. Instead the Parliament introduced a new type of MMF; the Low Volatility Net Asset Value MMV (LVNAV MMF). Existing CNAV MMFs must convert to either a LVNAV MMF, or a new form of CNAV MMF; the Public Debt CNAV MMF, which is subject to stricter conditions to ensure its stability and resistance to market shocks.  

As noted above, the Regulation introduces these new categories of MMFs and new rules for governing these funds.

The new types of MMF that may be established are:

Public Debt CNAV MMF

This is a CNAV MMF that invests 99.5% of its assets in public debt instruments. It is similar to the LVNAV MMF in most respects save that: (a) it is permitted to use the amortised cost valuation method without limitation; and (b) different portfolio composition rules and investment restrictions apply.

LVNAV MMF

This is a hybrid MMF created by the Regulation, its key features include:

• A diversified portfolio with stringent concentration requirements to reduce risk;
• A smaller pool of eligible assets;
• Use of the amortised accounting method to value assets, subject to certain conditions and use of mark to market where those conditions are not met;
• Strict daily and weekly liquidity requirements to fulfil potential redemption requests;
• Improved transparency, to ensure that investors and supervisors get better and earlier information; and
• Provisions must be in place for liquidity fees and redemption gates.

VNAV MMF

A VNAV MMF is not a new type of MMF, rather it describes how a fund calculates its net asset value per unit or share by using a mark-to-market or mark-to-model valuation method. These funds are not subject to fees and gates.

Short Term MMF and Standard MMF

Pursuant to the Regulation, MMFs may be established as either short-term or standard. A short-term MMF is one that invests in eligible money market instruments and is subject to the portfolio rules prescribed in the Regulation. A standard MMF is one that that can invest in a wider range of money market instruments and is subject to different portfolio rules as set out in the Regulation. Only a VNAV MMF can be a standard MMF, but all types of MMFs can be short-term. The table below summarises these requirements (each of the references to a percentage amount is to a percentage of the net assets of the MMF):

Specific requirements for Public Debt CNAV MMFs and LVNAV MMFs

The managers of these types of MMFs should establish, implement and consistently apply a prudent, rigorous, systematic and continuous: (a) internal credit quality assessment procedure; (b) liquidity management procedure for ensuring compliance with the weekly liquidity thresholds applicable to the MMFs; and (c) stress testing procedure.

The Regulation also prescribes additional requirements on the operation of MMFs including rules on:

Eligible Assets: MMFs may invest in money market instruments, eligible securitisations and subject to certain conditions, both repos and reverse repos and units or shares in other MMFs.

Transparency: investors should be clearly informed whether the MMF is of a short-term nature or of a standard nature and whether the MMF is a public debt CNAV MMF, a LVNAV MMF or a VNAV MMF. MMFs should also make available certain other information to investors on a weekly basis, including the maturity breakdown of the portfolio, the credit profile and details of the 10 largest holdings in the MMF.

Further, MMFs cannot receive external support from a third party.

Next Steps

The final stage in the legislative process is the Council’s formal adoption of the Regulation, following which it will be published in the Official Journal of the European Union. The Regulation will enter into force 20 days following its publication and will apply 12 months after the date of entry into force. Five years after the date of entry into force of the Regulation, the Commission will review it to determine whether changes are to be made to the regime for Public Debt CNAV MMFs and LVNAV MMFs.

As it is expected that the Council will adopt the Regulation by the first half of 2017, it is likely that the Regulation may apply from June 2018. Article 44 of the Regulation provides for a transitional period of 18 months, meaning that existing UCITS or AIF CNAV MMFs will have 18 months after the Regulation enters into force to convert to either Public Debt CNAV MMFs, LVNAV MMFs or VNAV MMFs.

Contributed by Niall Crowley