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Money-market backup bank could tap Fed for bailout funds

Section: Daily Dispatches

Fidelity, Vanguard Said to Plan Emergency Bank for Money Market

By Christopher Condon
Bloomberg News
Sunday, September 20, 2009

BOSTON -- Fidelity Investments and Vanguard Group Inc. are among firms planning to set up an emergency pool of cash aimed at preventing a repeat of the run on money-market funds a year ago, said two people familiar with the plan.

Funds would pay a fee to an entity called the Liquidity Exchange Bank, building a cash reserve that would help them handle investor withdrawals during a crisis like the one last September, said the people, who asked not to be named because the information wasn't public. The bank, which would buy securities at face value from the funds, could also apply for emergency support from the Federal Reserve discount window.

Asset managers are preparing the plan as the Obama administration considers forcing funds to abandon their stable price of $1 a share, a change the firms believe could undermine the attractiveness of money market funds, which currently hold $3.45 trillion. A Treasury Department program insuring money funds against losses from defaulted securities expired yesterday.

"This makes sense to the extent that the industry could take the wind out of the sails of alternative solutions that are not as appealing," Joan Swirsky, an attorney at Philadelphia law firm Stradley Ronon Stevens & Young LLP who specializes in money-market funds, said in an interview.

The President's Working Group on Financial Markets is scheduled to recommend changes Dec. 1. The group, an advisory body to the White House, was also directed by the Treasury in June to consider whether a privately funded "emergency liquidity facility" for the industry is needed.

... Shaping the Proposal

Federated Investors Inc., based in Pittsburgh, and Baltimore-based Legg Mason Inc. are helping to shape the industry proposal. Spokesmen for the asset managers, including Boston-based Fidelity and Vanguard in Valley Forge, Pennsylvania, declined to comment.

A telephone message seeking comment from the Federal Reserve wasn't returned.

The proposal is subject to revisions, the people said.

The liquidity bank is designed to provide cash to help funds meet redemptions during a run, like the one seen in September 2008 after the $62.5 billion Reserve Primary Fund fell below $1 a share because of losses from bankrupt Lehman Brothers Holdings Inc. Investors withdrew $133 billion from money funds during the next two days.

The program won't seek to insure money funds against losses from defaulted securities. The Treasury's Temporary Guarantee Program for Money Market Funds, which ended after a year, explicitly insured deposits in participating funds, and succeeded in halting last year's investor flight.

... Plan Outline

The industry plan would have more in common with the Fed's Money Market Fund Liquidity Facility, which lends to banks that buy asset-backed commercial paper from money funds. That program, also begun last September, provided cash to help funds meet withdrawal demands. It will expire Feb. 1.

A private liquidity bank "could provide liquidity to a money-market fund that needs it -- an extremely rare occurrence but one a handful of funds confronted last September," Deborah Cunningham, Federated's head of taxable money funds, wrote yesterday in a commentary on the company’s Web site.

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