LIBOR Fixing and Stable Value Cash Funds – Two Sacred Cows, Butchered, Consumed

The last two weeks saw the end of two of the finance industry’s most sacred cows. First, the stable value cash fund was replaced by market value daily valuation. Second, the method for fixing LIBOR, based on an average of bank estimates, was replaced by actual market referenced lending rates – at least in Singapore.

I could never understand why cash management fund managers defended their adherence to the holy dollar. Rather than marking to market their holdings on a daily basis, they preferred to claim that the true value of the fund was always one dollar and only in extreme cases “break the buck”. The original reason for this practice dates back to the 1970’s when the funds were first invented. Back then, technology was not as powerful as today so that there was a physical constraint on simply being able to gather the data to calculate the fund net value. This has all changed however, but the cash fund managers refused to update their practices. Finally, in the wake of the Reserve Fund’s failure, and after much debate and objection between fund managers and the SEC, the correct practice of marking to market these funds finally triumphed.

LIBOR is another case of non-market practices leading to illegal behaviour and market rigging. Last week, in Singapore, 20 banks were censured for collectively influencing the SIBOR rate at which many loans were based. In their wisdom, the MAS has put in place a world-first method for measuring interest rates by actually referring to real transactions. Heaven forbid!

Both these market-based solutions to significant problems are no-brainers. The perplexing aspect in each case is why it did not happen earlier. As a general rule, regulators should encourage market-based valuation methods for choosing benchmarks and valuing assets.