As 2010 draws to a close, we cannot help but take note of the sea change in how corporate treasurers are managing their cash portfolios since the capitulation of the financial markets in September 2008. If we characterize 2008 as the year of “shellshock” and 2009 as one of “bunker mentality,” 2010 clearly is the year of “transformation.” As more treasury professionals came to recognize that the business of managing corporate cash investments has entered the age of the “new normal,” we see the following three trends as having played pivotal roles in this transformation. We hope this insight will be useful as cash investors contemplate their year-end policy revisions and portfolio reallocations.
Sweeping regulations creating challenges, uncertainties and opportunities
Nearly two years after the quake that shook the foundation of the short-term debt market, aftershocks in the form of regulation finally arrived to address systemic vulnerabilities. As one of the epicenters of the financial crisis, this market was among the first market sectors to take the bitter regulatory medicine.
First arriving on the scene was the SEC’s revised Rule 2a-7 for money market funds. The rule strengthened a number of credit and liquidity requirements for money market funds, a popular liquidity vehicle for treasury functions. Next came the sweeping Dodd-Frank Wall Street Reform and Consumer Protection Act that resulted in the creation of the Financial Stability Oversight Council to address systemic risk in the financial system. All told, the new legislation mandates 243 new rules to be implemented and 67 studies to be conducted by the 10 Federal regulatory agencies that make up the council and oversee much of the nation’s financial systems . Third to arrive was the proposed international bank capital adequacy standard, popularly known as the Basel III Accord, prescribing new capital, leverage and liquidity ratios for international banks. Additionally, the Federal Deposit Insurance Corp (FDIC) was the first among major U.S. Federal agencies in drafting new rules on deposits and asset-backed securities, altering the landscape of cash investments. Other regulations introduced in 2010 include those impacting repurchase agreements, asset-backed commercial paper programs and credit ratings, all of which may have a profound influence on cash investors.
There is little doubt that the intent of the new regulations is to repair the financial safety net so that a 2008-style crisis will not be repeated. However, their cumulative effect has been fewer investment opportunities, lower yield potential and higher compliance costs for the treasury community . Adding to the challenges are the patchy details in most of the new rules and conflicting provisions among some. For example, the SEC’s new credit ratings agency designation requirement for money market funds is directly contradicted by an instruction from the Dodd-Frank Act for the SEC to avoid reliance upon credit ratings as risk gauges. Additionally, reconciliation of the Dodd-Frank Act and Basel III capital rules may take months, if not years, to complete, pushing implementation even further into the future.
On the flip side, new regulations have also created opportunities for investors with higher risk tolerance and flexible investment strategies. As the demand for shorter, safer and more liquid assets increases, investors outside the regulatory framework may see more opportunities in some investments that have fallen out of favor.
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