1. Is SEC “Breaking the Buck” and the Money Markets?
Money markets funds are funny animals. They are mutual funds, but unlike most funds they are extremely short term and invest in US Treasury bills and commercial paper. But what makes them truly unique is that their price remains “par”. As new investors invest they are offered the then current rate of return, but the funds assure investors that they will get their principal returned dollar for dollar. The credit crisis forced a few of the funds to “break the buck” (returning less than 100% of their principal) as a result of Lehman Brothers commercial paper default. Since the crisis money market funds have been struggling to retain customers as short term interest rates remain near zero. Now the SEC is stepping in with a cure to heal the struggling money market with a floating NAV (net asset value) that would allow money market fund prices to fluctuate. Participants say the cure could kill the $2.7 trillion industry outright. Some in the industry argue that demand for money markets will plummet if there is not the security that investors are guaranteed the return of their principal. Regulatory missteps or continuing historically low rates could cause serious problems for these funds. More than the buck appears to be broken.
2. Credit Union Regulator’s Proposed Rule Could Limit Loan Participations
Loan Participations have been popular since the ‘80s. My first job in finance was buying shares in large loans made by money center banks to some of the world’s largest corporations. The spreads were small, the volumes large – the loans themselves short-term and generally very safe. So why is NCUA, the national credit union regulator, proposing rules that would limit the amount credit unions invest in participations? The regulator claims that loan participations are creating systemic risk. Their concern stems from the fact that some institutions are purchasing large amounts of the participations (relative to their capital) from a single originator often lent to a single borrower. Larger institutions may be divvying out large loans to dozens of credit unions and the supervisor is worried that a large failed loan could endanger a large number of credit unions at the same time. The new rules would limit federally insured credit unions to investing 25% of the credit union’s net worth with a single originating lender or lending 15% to a single borrower. State and national credit union associations are fighting the changes.
3. Hedge Fund Goes After Ponzi Firm’s Lawyers ~ Suing the Suers
Tom Petters is serving a 50-year sentence after a 2008 jury found him guilty of using his investment firm as a $3.65 billion Ponzi scheme. One of the investors in his fund was the hedge fund Ritchie Capital Management. Ritchie has been in court repeatedly trying to recoup its investment and defending against investors’ suits. Ritchie is now suing Petters’ law firm asserting that over the 10 years that the firm served as the fund’s attorney they “materially aided” Petters’ criminal enterprise. It is unusual to see a law firm sued by a third party for the conduct of a client. For the suit to succeed the plaintiff will have to establish that the law firm knew that something fraudulent was going on. Ponzi schemes tend to generate an absurd amount of litigation. With so many injured and the guilty party often fled or broke, plaintiffs are rarely satisfied. Whether this suit is successful or not, regulators need to understand that the cost of Ponzi schemes go far beyond the initial lost investments as the innocent often spend incredible sums seeking retribution.
4. American Financial Regulation…Love it / Forget Leaving it
US financial policies have always had a long reach when it comes to influencing regulators around the world. The recent batch of legislation goes far beyond simple influence. Portions of Dodd-Frank and FACTA are having direct impact on financial service companies at home and abroad. Foreign regulators and foreign institutions are not necessarily happy about the passages of the Acts that impose direct requirements on foreign firms. How can US regulators control foreign institutions? The Foreign Account Tax Compliance Act (“FACTA”) requires foreign financial institutions to disclose details about US tax payers’ accounts held off-shore. Dodd-Frank’s Volcker Rule will force banks to limit proprietary trading, and while US mutual funds are specifically excluded from the ban, foreign mutual funds will still be off-limits for US banks. Don’t expect foreign regulators to ignore this extraterritorial slight. European and other major regulators have already started to institute rules that will impact US financial service companies globally. How many languages does your compliance officer speak?
5. Never Bare Your Teeth at a Pitbull and Don’t Curse Out Your Regulator
Now and again it’s good to review the basics. John Kinnucan, a tech analyst for an Oregon-based research firm, would have done well to follow this basic advice. Kinnucan was arrested recently for his involvement with the same insider trading ring that brought down Raj Rajataram. His role was relatively small and the sums modest compared to others charged. However there were extenuating circumstances. Prosecutors accuse Kinnucan of leaving US attorneys and FBI agents profanity-filled voice-mail messages over a two-month period. The voice mails contain numerous ethnic and racial slurs and references to the Holocaust. As proponents of civilized behavior (and common sense), we at Willis recommend against this type of behavior.