Money fund pioneer: Not all changes positive

It’s something of a bittersweet birthday present.

The first money market fund was introduced to investors 30 years ago this month, and thanks to an economy that just won’t get off the floor, they’re more popular than ever.

But a lot about money funds has changed since they were first introduced, and it hasn’t all been for the better, says Bruce Bent, chairman and CEO of Reserve Management Corp. in New York, who introduced the first money fund in 1971.

Mr. Bent says that one of the biggest changes has been among the most damaging: the tendency of some money funds to invest in commercial paper.

Some fund groups have “corrupted the idea, with people bringing in commercial paper, inverse floaters and all of that junk that has passed through here in the last 30 years in an effort to reach for yield, and making it a yield-only vehicle, which it was never intended to be,” Mr. Bent says.

“What it was supposed to be is an investment that gave you a reasonable rate of return,” he adds.

Not everyone agrees, however, that commercial paper is the scourge that Mr. Bent has made it out to be.

Peter Crane, vice president and managing editor of iMoneyNet Inc., a money fund tracker in Ashland, Mass., says that he understands Mr. Bent’s concerns, but he believes commercial securities have proved their worth.

“Commercial paper has become one of the lesser-known success stories of the capital markets,” Mr. Crane says.

“The point’s well taken that it’s an unsecured obligation, but the history of money funds [has] shown that they can take isolated blowups and defaults and still not have the $1 per share impacted,” he adds.

The Securities and Exchange Commission’s Rule 2a-7 governing money funds requires funds to take action when the net asset value on a money fund rises to $1.01 or drops to 99 cents.

The logical thing

Considered a safe haven during bad economic times, money funds are being swamped with new cash from investors.

The inflow tends to depress the funds’ overall yields because the yields on new investments made with the cash coming in are even lower than the already skimpy yields on earlier investments.

But it doesn’t have to be that way, says Mr. Bent.

Portfolio managers need only show a little restraint and turn away dollars that could dilute their funds, he says.

That seems logical, since investors look to money funds for safety. Indeed, most fund experts say that most fund groups will do just that.

Mr. Bent’s funds stick to investments such as securities issued by the U.S. government and its agencies, prime bank obligations whose issuers are rated triple- and double-A, or instruments collateralized by such obligations.

Thanks, but no thanks

Security is definitely something that Lou Stanasolovich, president of Legend Financial Advisors Inc. in Pittsburgh, wants from his money fund.

But that doesn’t mean Mr. Stanasolovich is ready to invest with Reserve Funds.

While he thanks Mr. Bent for coming out with the first mutual fund, he’ll stick with The Vanguard Group in Malvern, Pa. He says that it’s a question of, “What have you done for me lately?”

Even though Reserve Funds continues to refuse to invest in corporate paper, Mr. Bent would argue that the fund group has done plenty.

Along with the rest of the money fund industry, the fund group has introduced checking and debit cards, which give customers access to the assets in their account.

It has also introduced broker sweeps, allowing brokers to move assets easily into money funds.

“Where you saw a couple of years ago it may have been yield or the convenience of a sweep, today it’s the quality as well as the services,” says Bruce Bent II, president of Reserve Management and the son of its founder.

But the bells and whistles that have been added and the influx of commercial paper pale in comparison to the biggest change – the flow of institutional assets into funds.

The senior Mr. Bent says he never guessed that institutions would be as interested in money funds as they are today.

As a result, Reserve Funds has $13.5 billion in money fund assets, compared with $200 billion for Fidelity Investments.

He says the change came when corporate treasurers realized it was cheaper to outsource their work to money funds than to do the investing themselves.