NEW YORK - Moody's Investors Service said it is requesting market participants to comment on a proposed new methodology and rating scale for money market funds. The refined rating methodology, if implemented after a 60-day request-for-comment period, would recalibrate Moody's primary analytical inputs, such as a fund portfolio's underlying asset quality, its liquidity position and susceptibility to market risk, and the likelihood of support from its sponsor.
Under the proposed rating system, Moody's would also introduce a new five-point rating scale for money market funds ranging from MF1-plus (strongest) to MF4 (weakest).
"Our current rating scale uses the traditional Moody's long-term ratings, but has different rating definitions for managed funds," says Yaron Ernst, Managing Director of Moody's Global Managed Investments group. "Our new scale, which further differentiates the factors we consider when rating money market funds, will give investors a much better view of how a fund may perform even during times of severe market pressure."
The new rating scale is being proposed to better capture the risks of money market funds in which investors hold shares, but also expect immediate payment on demand. Accordingly, Moody's plans to rate money market funds based on its opinion of their ability to meet the dual objectives of preserving principal and providing liquidity. The new rating scale would (a) factor in the generally low risk of the underlying money market fund assets, (b) consider a fund's liquidity profile and the potential for a "run" on the fund, (c) assess a fund's sensitivity to interest rate shifts, and (d) assess the likelihood of sponsor support.
"In addition to clarifying the difference between money market fund ratings and Moody's traditional debt ratings, the new methodology will provide investors with more differentiation among money market funds, and more transparency regarding the key factors that affect a fund's ability to meet its objectives," says Ernst.
The credit crisis subjected money market funds to significant stresses that the sector had not previously experienced. The combination of sizable declines in the market value of funds' underlying assets, combined with the rapid contraction of liquidity in financial markets, forced redemption rates to unprecedented levels. These events, exacerbated by Lehman's insolvency, contributed to the collapse of the Reserve's Primary Fund and the subsequent redemption restrictions on 31 money market funds in the US and Europe. These events were mitigated by fund sponsors providing support in several cases and significant U.S.
government intervention, both of which helped stabilize the market.
Among the various elements of the new methodology on which Moody's is seeking market comment is how the revised rating scale may impact money fund investors, whose investment guidelines reference Moody's traditional credit rating scale. This may also be important for some structured financings and other securities where debt covenants reference specific investment guidelines.
