Changes in regulation and market conditions often introduce some unanticipated dislocations in markets. Two recent developments have or may have a dramatic effect in two areas that many investors may not be aware of or appreciate. I am referring to the Securities and Exchange Commission’s rules on money market funds and troubled Germany banks.

Is your cash really cash?

A new set of SEC rules is amending the administration of money market funds in order to prevent instabilities seen in the last financial crisis.

The deadline for compliance with these changes is October 14. The overarching concept is to change the rules for money market funds that may alter your perception of what you assumed was a risk-free investment.

Prime and municipal/tax exempt institutional funds will be subject to floating net asset values, essentially they can “break the buck” if market-based values reflect this. They also could be subject to redemption fees of up to 2 per cent and redemption suspensions of up to ten business days if some minimum liquidity thresholds are breached. This, of course, could be a major problem in a crisis when cash is needed to be called upon or desired and would be unavailable if liquidity thresholds are not met in certain funds. Retail prime and municipal/tax exempt funds are basically allowed to maintain stable NAVs but they could still be subject to both redemption fees and suspension. Retail and institutional government funds are permitted to maintain stable NAVs and are not required, although they may, impose redemption fees and/or redemption suspensions. The result of these changes has created a mass exodus from money market prime assets and some floating rate municipal funds. See the accompanying chart.

Most investors would give little thought to the risk or restrictions with their cash. The new rulings are something to consider. It would be advisable to discuss this with your financial adviser if you have any questions and look into government security funds.

Is your investment really what you invest in?

Does your African Exchange Traded Note depend on a Germany bank? The first thing to note would be that ETNs are NOT exchange-traded funds (“ETFs”).

Investopedia describes the basic difference best: “When you invest in an ETF, you are investing into a fund that holds the asset it tracks. That asset may be stocks, bonds, gold or other commodities, or futures contracts. An ETN is more like a bond. It’s an unsecured debt note issued by an institution. Just like with a bond, an ETN can be held to maturity, bought or sold at will, and if the underwriter (usually a bank) were to go bankrupt, the investor would risk a total default. For that reason, before investing in an ETN, research into the credit rating of the underwriter is an important metric. If the underwriter were to receive a credit downgrade, shares of the ETN would likely experience a downturn unrelated to the underlying product it’s tracking.”

The last thing you want to do is to make the right investment choice with the wrong investment vehicle. Your entire gain could be wiped out by a bankruptcy which is totally unrelated to your investment.

If you are an owner of an ETN it pays to consider the institution/bank backing it. According to Ron Rowland, editor of the Invest with and Edge website, Deutsche Bank is offering 19 ETN listed for trading. DB is facing credit downgrades and stress over the US Department of Justice’s probe over mortgage-backed securities. DB’s shares have been in a literal free-fall over the past year as investors fret over its solvency.

Investors are often understanding when fundamentally valid conditions change and cause fluctuations in asset values. It’s the surprises that arise from adverse events which can create great concern. It is always worth looking under the hood to make sure the engine you bought is running the way you thought. Talk to your mechanic financial adviser to understand what you own.

Sources:

https://personal.vanguard.com/pdf/VGMMR.pdf

http://www.investopedia.com/financial-edge/0213/etf-or-etn-whats-the-difference.aspx

http://investwithanedge.com/dump-deutsche-bank-etns-now

Nathan Kowalski CPA, CA, CFA, CIM is the Chief Financial Officer of Anchor Investment Management Ltd and the views expressed are his own. Disclaimer: This material is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed may change as subsequent conditions vary. The information and opinions contained in this material are derived from proprietary and non-proprietary sources deemed by the author to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. Past performance is no guarantee of future results. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this material is at the sole discretion of the reader. Investment involves risks. Readers should consult their financial advisers prior to any investment decision. Index performance is shown for illustrative purposes only. You cannot invest directly in an index.