“NOTICE 80 provides clarity on the investible universe” - Old Mutual

meesha Chagan
New regulations bring
GREATER TRANSPARENCY
but lower returns from some
money market funds
Ameesha Chagan
Portfolio Manager at Futuregrowth Asset Management
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The latest changes to regulations governing money
market unit trusts — contained in Notice <strong>80</strong> under
CISCA, which came into effect on 1 July 2012 — are
very positive for the industry as a whole: They improve
types and maturity of instruments allowed in money
market funds, and ultimately reduce the risk involved.
Unfortunately, they are also likely to result in lower
returns from some money market funds in the future.
Because the previous regulations around these funds
were not comprehensive, asset managers had different
interpretations of the investible universe — they were
uncertain as to exactly what types of assets they were
allowed to invest in. This meant that the money market
funds available from different managers differed
from each other in terms of risk. Some managers
were strict in their approach and others were less
strict, permitting longer-dated investments and even
derivative-type securities, and therefore introducing
higher risk into their funds.
CLARITY AND TRANSPARENCY
Notice <strong>80</strong> (N<strong>80</strong>) addresses these issues by providing
<strong>clarity</strong> on the investible universe to investment
managers, and more importantly, <strong>provides</strong> transparency
to investors. Investors are now also able to understand
fully the risks inherent in a money market fund and
choose a product suitable to their risk appetite.
from the Notice is that the name of the chapter has
been changed from “Money Market Portfolio” to
“Money Market and Short-Term Debt Portfolio”. This is
deliberate in that it aims to highlight to the investor
the broader investment universe.
“NOTICE <strong>80</strong>
<strong>provides</strong> <strong>clarity</strong>
on the investible
universe”
The previous regulation had the following restrictions:
12 months may not be included.
N<strong>80</strong> now states the following:
market instruments included in a money market
and short-term debt portfolio, based on the value
of the total money market and short-term debt
portfolio, may not exceed 120 days.
instruments included in a money market and shortterm
debt portfolio, based on the value of the total
money market and short-term debt portfolio, may
and short-term debt portfolio, a money market
instrument may not have a residual maturity
exceeding 13 months.

New regulations bring greater
transparency, but lower returns
from some money market funds
The best way to illustrate these changes is with an
example of a typical trade:
A 13-month asset currently trades at a yield of
interest rates every three months, thus they both have
the same interest rate risk. The difference in the yield
is therefore due to the additional credit risk from the
longer-dated asset. The previous regulation was silent
on the treatment of a legal maturity versus interest
rate risk, so some money market fund managers
therefore chose to invest in longer-dated instruments
to the spirit of the regulations, as these managers used
the interest rate reset period (three months) as the
term to maturity.
The new regulations now take away this discrepancy
— it is clear that all managers can now only invest
in instruments with a maximum 13-month term to
maturity. This is why we could see a fall in yields in
certain money market portfolios where managers
were investing in longer-dated (and therefore higheryielding)
instruments.
“Credit-linked
notes are now
excluded”
with the constant price, and to report this calculation
to the Registrar within 30 days of performing the
calculation. Money market funds are valued on an
accrued methodology basis to keep the constant R1
price.
Finally, the new regulations encourage managers to
perform their own credit analysis on instruments by
removing the obligation to use the credit ratings from
external rating agencies.
“Regulations
encourage managers
to PERFORM THEIR
OWN credit analysis”
Money market funds are a conservative asset class
by nature and the transparency and <strong>clarity</strong> that N<strong>80</strong>
<strong>provides</strong> is surely in the best interest of the client
invested in these funds. Previously, with certain
managers a client could have unknowingly invested in
a presumably “safe” money market fund containing
derivatives and long-dated debt instruments. Now
investors know exactly what they are getting and what
risk they are taking.
linked notes may not be included in money market
portfolios, where again the previous regulations were
silent in this regard and therefore some money market
portfolios included these assets in their funds. Our
opinion has always been that credit-linked notes have
an embedded derivative, and since derivatives are not
allowed in money market portfolios these assets do not
fall into the scope of money market portfolios.
Furthermore, the Notice also makes express provision
for the use and treatment of interest rate swaps in
money market portfolios. The previous regulation was
again silent in this regard.
Another noticeable and very positive change is that
money market funds are now obligated to perform
a mark-to-market valuation every six months to
determine the variance of the mark-to-market value
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