Bogle: Time to end money-market fund 'illusion'

He has clashed with industry leaders — and in some instances Vanguard, today the largest fund company — over such matters as investment tax rates and financial market reform. Then, of course, there's the size of fees that funds charge investors — especially managed funds that, unlike index funds, seek to beat the market rather than match it.

Bogle left Vanguard's leadership ranks in 2000 but he and the industry are currently at odds over how to strengthen money-market mutual funds. Average investors and institutions use these safe-harbor investments as parking places for cash that's temporarily kept out of stocks or higher-yielding segments of the bond market. Corporate and local government treasurers use cash invested by money fund shareholders to cover short-term needs such as payroll and purchasing.

The fund industry won a victory last week when Securities and Exchange Commission Chairman Mary Schapiro conceded she lacked support to adopt new restrictions covering $2.6 trillion in money fund assets. Schapiro abandoned a scheduled vote because she couldn't secure backing from a commissioner considered a swing vote on the five-member panel.

Yet Schapiro's concession didn't end the acrimony over proposals that the Investment Company Institute and the trade group's member fund companies fought. A statement that Schapiro issued prompted commissioners Daniel Gallagher and Troy Paredes to reply with their own this week. They said Schapiro created the false impression they didn't care about strengthening money funds.

Schapiro's proposal, they said, "would impose significant new costs ... while potentially introducing new risks into the nation's financial system."

In an interview this week, Bogle said the two commissioners have it backward. Failing to adopt Schapiro's proposals, he says, is risky business.

A key issue is whether to abandon the "stable net asset value" standard for money funds, as Schapiro proposed. That's a reference to the fact that money funds are supposed to continually hold at least $1 in assets for each investor dollar put in. That feature sets money funds apart from other investments whose shares rise and fall in value.

Schapiro says the current standard gives investors the false impression that they're essentially guaranteed against losses. She also worries that the standard creates a risk that one soured investment by a fund will touch off panic among investors wanting to quickly withdraw cash.

That's what happened four years ago, when a bond investment by one money fund soured after Lehman Brothers went bankrupt. Institutional investors pulled cash from the fund, which "broke the buck" when it couldn't return a full dollar for each dollar that clients tried to pull out. The fund collapsed, and investors pulled more than $300 billion from money funds industrywide in a few days. Short-term credit markets froze and the government rescued money funds by extending temporary guarantees

Schapiro and others want to give fund managers leeway for temporary fluctuations, or a "floating net asset value" slightly above or below the dollar-for-dollar level.