The Federal Reserve’s creation of a Money Market Mutual Fund Liquidity Facility (MMLF) follows the announcement of a Commercial Paper Funding Facility and a Primary Dealer Credit Facility, both of which we discussed earlier this week (link to CPFF memo, link to PDCF memo), and represents a continuation of the Federal Reserve’s use of its “unusual and exigent” powers to help provide liquidity during the current crisis.

The MMLF announced by the Federal Reserve last night is similar to the Asset-Backed Commercial Paper (ABCP) Money Market Fund Liquidity Facility (AMLF) established in September 2008, though the MMLF allows borrowers to pledge a broader range of eligible collateral than the AMLF, which was limited to only ABCP.

Key features of the MMLF are described below.

  • The MMLF is available to several types of banking organizations, similar to the AMLF.
    • Eligible borrowers under the MMLF include:
      • U.S. depository institutions;
      • U.S. bank holding companies (both parent companies incorporated in the United States and their U.S. broker-dealer subsidiaries); and
      • U.S. branches and agencies of foreign banks.
    • Although savings and loan holding companies (SLHCs) were not expressly listed as eligible borrowers, it appears that they are also eligible borrowers because they are covered by the associated regulatory capital relief (see below).
  • The MMLF is designed solely to provide relief for, and liquidity to, prime MMFs.
    • After the SEC’s 2014 reforms, prime MMFs became a much smaller part of the MMF market. Unlike U.S. government MMFs, a prime MMF must have a floating net asset value (NAV) and redemption gates if the fund’s weekly liquid assets fall below 30% of the fund’s total assets.
    • Government MMFs are now by far the largest portion of the MMF sector, holding 69.1% of net assets as of the end of February 2020.[1] The need for the MMLF calls into question the strength of the reforms for prime MMFs put into place in 2014.
  • Eligible collateral under the MMLF is broader than under the AMLF. It includes:
    • U.S. Treasury and Fully Guaranteed Agency Securities;
    • Securities issued by U.S. Government Sponsored Entities (GSEs);
    • ABCP or unsecured commercial paper issued by a U.S. issuer rated at least A1, F1 or P1 by two or more major rating agencies (or rated within the top category if rated by only one major rating agency); and
    • Potentially receivables from certain repurchase agreements.
  • As with the Commercial Paper Funding Facility, the Department of the Treasury is providing $10bn of credit protection via the Exchange Stabilization Fund (ESF).
    • This credit protection is not a guaranty, for which Treasury could not use the ESF. This prohibition was imposed in the Emergency Economic Stabilization Act (EESA) of 2008, in response to Treasury’s use of the ESF to backstop MMFs during the 2008 financial crisis.
    • Treasury’s proposal for the Phase 3 coronavirus-related fiscal stimulus package included an explicit request that Congress temporarily suspend the EESA prohibition.
  • The Federal Reserve, OCC and FDIC today issued an interim final rule amending the regulatory capital rules for depository institutions and depository institution holding companies. Its purpose was to neutralize the impact that participation in the MMLF, i.e. acquiring and holding eligible assets on their balance sheets, would otherwise have had.
    • Citing the non-recourse nature of the Federal Reserve’s extensions of credit under the MMLF, the interim final rule allows banking organizations to exclude non-recourse exposures acquired as part of the MMLF from their total leverage exposure, average consolidated assets, and advanced approaches and standardized approaches risk-weighted assets, as applicable.
    • An institution’s liability to the Federal Reserve under the MMLF must be reduced by the purchase price of the assets acquired with funds advanced by the Federal Reserve under the MMLF.
    • As noted above, the preamble and text of the Federal Reserve’s portion of the interim final rule apply to all “Board-regulated institutions,” which include SLHCs.
  • Advances under the MMLF secured by U.S. Treasury and Fully Guaranteed Agency Securities, as well as securities issued by GSEs, will be provided at the primary credit rate. Advances secured by any other collateral such as commercial paper will be provided at the primary credit rate plus 100 bps.
    • Advances under the MMLF are non-recourse, meaning that banking organization “borrowers under the MMLF will bear no credit risk” to the issuers of the eligible collateral.
  • The MMLF will continue until September 30, 2020 unless extended by the Federal Reserve.

[1] Office of Financial Research, U.S. Money Market Fund Monitor, available at https://www.financialresearch.gov/money-market-funds/us-mmfs-investments-by-fund-category/.

 

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