Swing Pricing Proposal on Shaky Ground as Bipartisan Opposition Solidifies

A total of 38 members of the House of Representatives from both parties used a September 5 open letter to call on the Securities and Exchange Commission to withdraw the agency’s proposal to require mutual funds to implement swing pricing and hold a higher proportion of liquid assets.

The letter was signed by representatives Anne Wagner, R-Missouri, and Brad Sherman, D-California, the chair and ranking member, respectively, of the House Subcommittee on Capital Markets.

Swing pricing is a mechanism that permits open-end mutual funds to change the price of the fund during the day if outflows are too great and risk diluting the fund. The idea is that by decreasing the price, redeemers of the fund are penalized instead of those holding fund shares, which is intended to limit liquidity stress and the risk of panic selling.

Sherman, and many other Congressional Democrats, have expressed disapproval of the “hard close” element of the rule proposal, which would require a fund to receive an order by 4 p.m. ET to get that day’s price, instead of it merely needing to have been received by an intermediary by 4 p.m. ET.

Opponents of the proposal say this would unfairly discriminate against investors who live in time zones further west who would have to get their orders in earlier during morning hours to get that day’s price rather than the next day’s price. This concern was expressed in the open letter.

Though some of the SEC’s proposals under Gensler’s tenure have received limited opposition from Democrats—such as from those from agricultural districts who are concerned about the SEC’s climate disclosure rule’s impact on farmers—no other proposal has received this level of pushback from members of the Democratic Party.

The authors of the comment letter state that the proposal would create a “two-tiered market that would disadvantage retail and retirement investors.” Since these orders can take longer to process, they are less likely to get the same day’s price than orders from institutional investors.

The “two-tiered” refrain was also used by Senator Tim Scott, R-South Carolina, at a hearing of the Senate Banking, Housing and Urban Affairs Committee on September 12, when Gensler testified. Scott called on Gensler to withdraw the proposal, but the letter itself only is signed by members of the House.

The letter acknowledged that the SEC wants mutual funds to update their liquidity requirements and adopt swing pricing so that they are better prepared for conditions that place high stress on their liquidity, such as those experienced at the beginning of the COVID-19 pandemic in March 2020. Gensler has used this rationale to defend the rule in many instances.

The letter elaborated that despite these conditions, no mutual fund failed to meet its redemption obligations during the pandemic, an observation also made by industry actors.

However, this argument ignores the most common defense of the proposal that Gensler appeals to: that mutual fund managers frantically called representatives of the Federal Reserve asking for liquidity assistance so that they could satisfy redemptions and large net outflows.

Investment industry representatives deny that such calls for liquidity were made. Eric J. Pan, the CEO and president of the Investment Company Institute, said, “We have no knowledge of any such panicked calls having been made in March 2020” in an emailed statement.

When asked for clarification on these alleged calls, a spokesperson for the SEC declined to comment.

Gensler has repeated this defense of the proposal in public more than once, including during his September 12 testimony and most passionately at the ICI annual conference in Washington in May. At that event, he encouraged investors who oppose the proposal “to look in the mirror” when asking why the proposal is necessary.

Indeed, the Federal Reserve created the Money Market Mutual Fund Liquidity Facility to provide secured loans to money market funds during the pandemic so they could meet their obligations.

However, that lending facility was for money market mutual funds, not open-end mutual funds, the type of fund at issue here. Whether or not such panicked late night phone calls ever took place, the relief the mutual fund managers allegedly requested was not, in fact, granted by the Fed.

As for money market funds, the SEC finalized rules reforming their liquidity management in July. Though the initial proposal included swing pricing—as in the pending proposal for open-end funds—the final rule for money market funds did not. Instead, the SEC required money market funds to impose a fee on redeemers if daily net outflows exceed 5% of the fund’s value.