Money Market Fund May Have Led To Dow Slide

Stocks have fallen despite the government's $85 billion rescue of American Insurance Group. The Dow fell by nearly 450 points. One analyst says the troubles of a huge money-market fund unnerved investors. The fund lost money in the Lehman Brothers collapse.

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MICHELE NORRIS, host:

From NPR News, this is All Things Considered. I'm Michele Norris. Relief may have been the goal, but it was not the reality on Wall Street. The government's 85-billion-dollar loan to AIG was supposed to calm the markets, but they remain in turmoil today. On the Dow, stocks fell more than 400 points. NPR's John Ydstie reports.

JOHN YDSTIE: As the U.S. financial markets opened sharply lower this morning and continued to trend down, commentators on the business news channel CNBC were struggling to figure out why the AIG rescue hadn't heartened investors.

(Soundbite of business news channel CNBC)

Unidentified Presenter: Stocks, of course, are sharply lower today. We have it covered for you, live team coverage of the markets and the financial crisis that is still brewing on Wall Street despite what everybody thought would be the solution for that company AIG. And of course it all started...

YDSTIE: There were plenty of theories including continued concern about which company might be next to crumble. Shares in the two remaining independent U.S. securities firms, Goldman Sachs and Morgan Stanley, were plunging the most ever. And comments from White House Press Secretary Dana Perino weren't reassuring either.

Ms. DANA PERINO (White House Press Secretary): We remain concerned about other companies, and that's why the secretary of the Treasury continues to work with the team to see if we can stand any other losses. But they're - as I said, they're taking this on a case-by-case basis.

YDSTIE: Investors were nervous, running for the safety of gold and short-term U.S. Treasury bills. The huge demand for Treasuries drove the annual return on them down below one percent, a rate not seen in 50 years or more. Jeremy Siegel, professor of finance at the Wharton School at the University of Pennsylvania says what unnerved investors today were the troubles of a huge money market fund for institutional investors, the Reserve Primary Fund. It should have been a super-safe investment, but it turns out the fund had invested in Lehman Brothers' debt and took huge losses as Lehman collapsed. That drove its share value below one dollar, a huge red line for money funds.

Dr. JEREMY SIEGEL (Professor of Finance, Wharton School, University of Pennsylvania): And this sent shocks of panic through the system. And people are saying, oh, my God, what is safe now?

YDSTIE: Siegel hastens to add that individuals should not be concerned that their money fund might have invested in Lehman Brothers' debt. Funds for regular folks are prohibited from making that kind of risky investment. The question of who is next and what was safe also drove the London interbank lending rate up very sharply, indicating a re-intensification of the credit crunch. Banks were unwilling to lend to other banks because they wondered if they too held Lehman debt or other toxic investments. Professor Siegel argues that the market's response was not a verdict on the government's takeover of AIG. He says the rescue was absolutely necessary.

Dr. SEIGEL: And my personal feeling is - I mean, right now I'm looking at a DOW down 320. We would be down over a thousand points today if AIG was not arranged yesterday. I think that would have thrown the market into total panic because no one would know what was safe.

YDSTIE: There was general acknowledgment that AIG was too big to fail. But Democratic Congressman Barney Frank, chairman of the House Financial Services Committee, decided the huge rescue provided an opportune time to take a potshot at the administration's line in the sand drawn on Monday to let the market work and let firms fail. Frank said he would introduce a resolution to declare September 15, "Free Market Day."

Representative BARNEY FRANK (Democrat, Massachusetts; Chairman, House Financial Services Committee): Because the national commitment to the free market lasted one day, it was Monday. On Sunday, Lehman Brothers was allowed to fail, and everybody was for the free market, and we had a lot of celebration of it on Monday. And it died yesterday. But I think we ought to at least commemorate September 15 as that brief moment of quarry for the let it go belly up faction.

YDSTIE: At the end of the day, the stock market was down sharply. The Dow Industrials lost nearly 450 points. John Ydstie, NPR News, Washington.

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Lehman Fallout Hits Money Market Fund

A stack of $1 bills i i

hide captionIndividual investors could unexpectedly lose some of the principal they invested in the Primary Fund, a money market fund that held debt securities issued by Lehman Brothers. On Tuesday, the fund reported that its net asset value fell below $1 a share in what investors call "breaking the buck."

Patryk Galk/iStockphoto.com
A stack of $1 bills

Individual investors could unexpectedly lose some of the principal they invested in the Primary Fund, a money market fund that held debt securities issued by Lehman Brothers. On Tuesday, the fund reported that its net asset value fell below $1 a share in what investors call "breaking the buck."

Patryk Galk/iStockphoto.com

Investor confidence in money market funds, which many people use like a savings or checking account, was shaken this week when one such fund said its value fell below the industry benchmark of $1 per share.

This unprecedented turn of events marks the first time that individual investors in a money market fund are at risk for losing some of their principal.

Money market funds, which are a type of mutual fund, have the reputation of being a conservative port where money will earn some interest and remain secure.

The Reserve, a financial services company, reported on Tuesday that its Primary Fund fell below $1 a share in net asset value. This money market fund, created in 1970, was the first of its kind and had total assets of $64.5 billion as of the end of August, the company said.

The fund declined in value largely because debt securities issued by Lehman Brothers previously valued at $785 million are now valued at zero, according to The Reserve.

Since 1983, when the SEC revised its rules governing money market funds, there has been only one instance of a money market fund paying investors less than the principal they invested, according to the Investment Company Institute, a trade association for U.S. investment companies. That instance involved institutional — not individual — investors.

This is the first time that a mutual fund is in the position of "breaking the buck" for individual investors. That means they would receive less than the principal they invested. Now investors in the Primary Fund can only redeem 97 cents for each dollar invested and can't withdraw funds for at least seven days, the company said.

The company's online prospectus describes the Primary Fund as the world's "first and longest running money fund."

And the company's Web site says this fund launched the money fund industry, which now has $3.5 trillion in assets for both individual and institutional investors, according to the ICI.

Money market funds are not insured by the FDIC. Many invest in Treasury notes and government agency bonds, which are backed by the full faith and credit of the U.S. government, meaning investors will be paid back in full. Now, with the government takeover of Fannie Mae and Freddie Mac, investments in bonds from these companies also have the same guarantee.

Money market funds may also invest in municipal bonds backed by state governments, short-term notes issued by corporations, or CDs.

"Although money market funds are not guaranteed, investors have benefited from the security, liquidity and diversification that these funds provide under stringent and effective regulation," the ICI said in a statement on Tuesday. It added that "the fundamental structure of money market funds remains sound."

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