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      Money Market Funds Melted in Pandemic Panic. Now They’re Under Scrutiny.

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      In March 2020, the Federal Reserve had to step in to save the mutual funds, which seem safe until there’s a crisis. Regulation may be coming.The Federal Reserve swooped in to save money market mutual funds for the second time in 12 years in March 2020, exposing regulatory shortfalls that persisted even after the 2008 financial crisis. Now, the savings vehicles could be headed for a more serious overhaul.The Securities and Exchange Commission in February requested comment on a government report that singled out money market funds as a financial vulnerability — an important first step toward revamping the investment vehicles, which households and corporations alike use to eke out higher returns on their cashlike savings.Treasury Secretary Janet L. Yellen has repeatedly suggested that the funds need to be fixed, and authorities in the United States and around the world have agreed that they were an important part of what went wrong when markets melted down a year ago.The reason: The funds, which contain a wide variety of holdings like short-term corporate debt and municipal debt, are deeply interlinked with the broader financial system. Consumers expect to get their cash back rapidly in times of trouble. In March last year, the funds helped push the financial system closer to a collapse as they dumped their holdings in an effort to return cash to nervous investors.“Last March, we saw evidence of how these vulnerabilities” in financial players that aren’t traditional banks “can take the existing stress in the financial system and amplify it,” Ms. Yellen said last month at her first Financial Stability Oversight Council meeting as Treasury secretary. “It is encouraging that regulators are considering substantive reform options for money market mutual funds, and I support the S.E.C.’s efforts to strengthen short-term funding markets.”But there are questions about whether the political will to overhaul the fragile investments will be up to the complicated task. Regulators were aware that efforts to fix vulnerabilities in money funds had fallen short after the 2008 financial crisis, but industry lobbying prevented more aggressive action. And this time, the push will not be riding on a wave of popular anger toward Wall Street. Much of the public may be unaware that the financial system tiptoed on the brink of disaster in 2020, because swift Fed actions averted protracted pain.Division lines are already forming, based on comments provided to the S.E.C. The industry used its submissions to dispute the depth of problems and warn against hasty action. At least one firm argued that the money market funds in question didn’t actually experience runs in March 2020. Those in favor of changes argued that something must be done to prevent an inevitable and costly repeat.“Short-term financing markets have been driven by a widespread perception that money funds are safe, making it almost inevitable the federal government provides rescue facilities when trouble hits,” said Paul Tucker, chair of the Systemic Risk Council, a group focused on global financial stability, in a statement accompanying the council’s comment letter this month. “Something has to change.”Ian Katz, an analyst at Capital Alpha, predicted that an S.E.C. rule proposal might be out by the end of the year but said, “There’s a real chance that this gets bogged down in debate.”While the potential scope for a regulatory overhaul is uncertain, there is bipartisan agreement that something needs to change. As the coronavirus pandemic began to cause panic, investors in money market funds that hold private-sector debt started trying to pull their cash out, even as funds that hold short-term government debt saw historic inflows of money.That March, $125 billion was taken out of U.S. prime money market funds — which invest in short-term company debt, called commercial paper, among other things — or 11 percent of their assets under management, according to the Financial Stability Board, which is led by the Fed’s vice chair for supervision, Randal K. Quarles.One type of fund in particular drove the retreat. Redemptions from publicly offered prime funds aimed at institutional investors (think hedge funds, insurance companies and pension funds) were huge, totaling 30 percent of managed assets.The reason seems to have its roots, paradoxically, in rules that were imposed after the 2008 financial crisis with the aim of preventing investors from withdrawing money from a struggling fund en masse. Regulators let funds impose restrictions, known as gates, which can temporarily prohibit redemptions once a fund’s easy-to-sell assets fall below a certain threshold.Investors, possibly hoping to get their money out before the gates clamped down, rushed to redeem shares.The fallout was immense, according to several regulatory body reviews. As money funds tried to free up cash to return to investors, they stopped lending the money that companies needed to keep up with payroll and pay their utility bills. According to a working group report completed under former Treasury Secretary Steven Mnuchin, money funds cut their commercial paper holdings by enough to account for 74 percent of the $48 billion decline in paper outstanding between March 10 and March 24, 2020.As the funds pulled back from various markets, short-term borrowing costs jumped across the board, both in America and abroad.“The disruptions reverberated globally, given that non-U.S. firms and banks rely heavily on these markets, contributing to a global shortage of U.S. dollar liquidity,” according to an assessment by the Bank for International Settlements.The Fed jumped in to fix things before they turned disastrous.It rolled out huge infusions of short-term funding for financial institutions, set up a program to buy up commercial paper and re-established a program to backstop money market funds. It tried out new backstops for municipal debt, and set up programs to funnel dollars to foreign central banks. Conditions calmed.A primary concern is that investors will expect the Federal Reserve to save money market funds in the future, as it has in the past.Stefani Reynolds for The New York TimesBut Ms. Yellen is among the many officials to voice dismay over money market funds’ role in the risky financial drama.“That was top of F.S.O.C.’s to-do list when it was formed in 2010,” Ms. Yellen said on a panel in June, referring to the Financial Stability Oversight Council, a cross-agency body that was set up to try to fill in regulatory cracks. But, she noted, “it was incredibly difficult” for the council to persuade the Securities and Exchange Commission “to address systemic risks in these funds.”Ms. Yellen, who is chair of the council as Treasury secretary, said the problem was that it did not have activity regulation powers of its own. She noted that many economists thought the gates would cause problems — just as they seem to have done.Of particular concern is whether investors and fund sponsors may become convinced that, since the government has saved floundering money market funds twice, it will do so again in the future.The Trump-era working group suggested a variety of fixes. Some would revise when gates and fees kicked in, while another would create a private-sector backstop. That would essentially admit that the funds might encounter problems, but try to ensure that government money wasn’t at stake.If history is any guide, pushing through changes is not likely to be an easy task.Back in 2012, the effort included a President’s Working Group report, a comment process, a round table and S.E.C. staff proposals. But those plans were scrapped after three of five S.E.C. commissioners signaled that they would not support them.“The issue is too important to investors, to our economy and to taxpayers to put our head in the sand and wish it away,” Mary Schapiro, then the chair of the S.E.C., said in August 2012, after her fellow commissioners made their opposition known.In 2014, rules that instituted fees, gates and floating values for institutional funds invested in corporate paper were approved in a narrow vote under a new S.E.C. head, Mary Jo White.Kara M. Stein, a commissioner who took issue with the final version, argued in 2014 that sophisticated investors would be able to sense trouble brewing and move to withdraw their money before the delays were imposed — exactly what seems to have happened in March 2020.“Those reforms were known to be insufficient,” Ben S. Bernanke, a former Fed chair, said at an event on Jan. 3.The question now is whether better changes are possible, or whether the industry will fight back again. While asking a question at a hearing this year, Senator Patrick J. Toomey, Republican from Pennsylvania and chair of the Banking Committee, volunteered a statement minimizing the funds’ role.“I would point out that money market funds have been remarkably stable and successful,” Mr. Toomey said.Alan Rappeport More

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      Stock Trades by Senator Perdue Said to Have Prompted Justice Dept. Inquiry

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      WASHINGTON — Early this year, Senator David Perdue, Republican of Georgia, sold more than $1 million worth of stock in the financial company Cardlytics, where he once served on the board. Six weeks later, its share price tumbled when the company’s founder announced he would step down as chief executive and the firm said its future sales would be worse than expected.After the company’s stock price bottomed out in March at $29, Mr. Perdue bought back a substantial portion of the shares that he had sold. They are now trading at around $120 per share.The Cardlytics transactions drew the attention this spring of investigators at the Justice Department, who were undertaking a broad review of the senator’s prolific trading around the outset of the coronavirus pandemic for possible evidence of insider trading, according to four people with knowledge of the case who described aspects of it on the condition of anonymity. Though Mr. Perdue alluded to the federal inquiry in a campaign ad this fall, its details have not been previously reported.Investigators found that Cardlytics’ chief executive at the time, Scott Grimes, sent Mr. Perdue a personal email two days before the senator’s stock sale that made a vague mention of “upcoming changes.” The timing of the message prompted additional scrutiny from investigators in both Washington and Atlanta. But ultimately they concluded the exchange contained no meaningful nonpublic information and declined to pursue charges, closing the case this summer.The federal scrutiny, which also included attention from the Securities and Exchange Commission, is the most vivid example to date of how Mr. Perdue’s complex financial interests and frequent trading have complicated his pursuit of a second Senate term. The results of January’s two Senate runoffs in Georgia, including Mr. Perdue’s race, will determine which party controls the chamber and with it, President-elect Joseph R. Biden Jr.’s ability to advance his agenda through Congress.Democrats have used details of his trades to accuse Mr. Perdue of lining his pockets when Americans were worried about their jobs and health, and in some cases, leveled corruption charges.Congress’s ethics rules do not bar lawmakers from holding or trading individual stocks, but like other Americans, they are not allowed to trade on inside information. Other lawmakers have decided it is not worth the political sweat that comes with the appearance of possible conflicts of interest and have steered their investments into diversified mutual funds. But Mr. Perdue, a former executive at Reebok and Dollar General, has been one of the most active traders on Capitol Hill.A spokesman for Mr. Perdue’s campaign confirmed the investigation in a statement, saying that investigators with the Justice Department and Securities and Exchange Commission “quickly and independently cleared Senator Perdue of any wrongdoing — this story highlights that again.”“Senator Perdue has always followed the law,” the spokesman, John Burke, said.A Justice Department spokesman and Securities and Exchange Commission officials did not respond to requests for comment. Representatives for the U.S. attorneys’ offices in Washington and Atlanta and the F.B.I. declined to comment.A spokesman for Goldman Sachs, which handles Mr. Perdue’s portfolio, said that the bank had “fully cooperated with inquiries” about Mr. Perdue but declined to comment further, citing a policy of not commenting on its clients.Mr. Grimes and officials at Cardlytics did not respond to requests for comment.The inquiry into Mr. Perdue roughly coincided with an unusual blitz of federal scrutiny on senators and their financial transactions, but it appears to have taken a somewhat different track.In the other cases, the Justice Department’s public corruption unit focused on stock sales around the beginning of the coronavirus pandemic, when markets dropped precipitously, by Senators Richard Burr of North Carolina, Dianne Feinstein of California, Jim Inhofe of Oklahoma and Kelly Loeffler of Georgia. Ms. Loeffler is competing in the state’s other runoff election.Investigators scrutinized whether the senators had dumped stocks and bought others in key sectors after receiving nonpublic briefings on the virus from experts and ahead of the market drop. The cases were closed on all of them except for Mr. Burr.The investigation into Mr. Perdue appears to have started in a similar fashion, but came to focus more intensely on the Cardlytics transactions.F.B.I. agents in Washington spoke with Mr. Perdue in June, asking him questions about his financial transactions. The extent of the conversation was unclear, according to two people with knowledge of the conversation.Mr. Perdue’s lawyers turned over hundreds of pages of information, including the emails with Mr. Grimes, in response to a subpoena from a grand jury.During the campaign, Mr. Perdue disclosed in a televised ad that a “full review of his stock trades” by the Justice Department and the Securities and Exchange Commission had “cleared him completely,” but made no mention of Cardlytics or the extent of the federal scrutiny.Mr. Grimes and Mr. Perdue had known each other since at least 2010, when Mr. Perdue joined the board of Cardlytics, then a small and privately held Atlanta start-up. Mr. Perdue resigned his directorship in 2014 after his election to the Senate, but struck an unusual financial arrangement on his way out that paved the way for him to benefit from holding a stake in the company when it went public four years later.As a senator, Mr. Perdue continued to hold shares of Cardlytics, where executives said he had made valuable contributions to the company, along with scores of other stocks that he traded. In 2019, Mr. Grimes made the maximum donation of $5,600 to Mr. Perdue’s re-election efforts, in what appeared to be his only political contribution of the election cycle.The email correspondence between the two men began on Jan. 21 and took place just before Mr. Perdue placed the well-timed trades.“David, I know you are about to do a call with David Evans,” Mr. Grimes wrote from his iPad, according to a copy of the exchange reviewed by The New York Times. “As an FYI, I have not told him about the upcoming changes. Thanks, Scott.”Mr. Evans, then the chief financial officer of Cardlytics, stepped down from that role six weeks after Mr. Grimes sent the email, at the same time that Mr. Grimes announced plans to assume a new role as executive chairman. Mr. Evans said in July that he was leaving the company.Mr. Perdue responded to Mr. Grimes’s email by saying he would check with his Senate scheduler but “I don’t know about a call with David or the changes you mentioned.”Mr. Grimes wrote back the next morning to apologize.“David, Sorry. That email was not meant for you. Wrong David!” he wrote.Mr. Perdue then contacted his wealth manager at Goldman Sachs, Robert Hutchinson, and instructed him to sell a little more than $1 million worth of Cardlytics shares, or about 20 percent of his position, three of the people said. One person familiar with the inquiry into Mr. Perdue’s trades said that the conversation was memorialized in an internal Goldman Sachs record later obtained by the F.B.I.Financial disclosure forms Mr. Perdue is required to file with the Senate show a Jan. 23 sale of $1 million to $5 million in Cardlytics stock.Investigators in Washington began scrutinizing Mr. Perdue in the spring; by June, the U.S. attorney’s office in Atlanta was handling the case along with prosecutors in the department’s criminal division in Washington.Mr. Hutchinson told the F.B.I. that Mr. Perdue and his wife weighed in only on broader investing issues, like the proportion of stocks and bonds to hold in their portfolio, according to a person with knowledge of his interview. But a person familiar with the senator’s money-management arrangements with Goldman Sachs said that Mr. Perdue retained some degree of discretion over which trades were made and when.In this case, Mr. Perdue’s legal team told investigators that Mr. Hutchinson had advised their client in October 2019 that he needed to sell Cardlytics shares to balance his holdings. The shares had increased in value and the advisers argued that Mr. Perdue should take the profits from the sales and reinvest them elsewhere to limit his exposure to the fluctuation of a single stock. Mr. Perdue elected to go forward with those changes in January, his lawyers said.Mr. Hutchinson declined to comment.After conducting interviews, including with Mr. Perdue and Mr. Grimes, investigators reached their conclusion that the senator had no nonpublic information about the company’s performance when he made the Cardlytics trade. The investigation was closed later in the summer, according to the people familiar with the case.If the email from Mr. Grimes was accidental, said Tai Park, a former federal prosecutor and white-collar crime partner at the law firm White & Case, Mr. Perdue “may be on firmer ground, because that’s objective evidence that the C.E.O. was not trying to tip him. In any event, trading on the basis of information learned from a C.E.O. of a company is exceedingly risky under any scenario and could draw attention from investigators.” More