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The Regulation of Mutual Fund Debt

35 Pages Posted: 30 May 2012 Last revised: 26 Sep 2012

John Morley

Yale Law School

Date Written: September 26, 2012

Abstract

This Article offers the first general examination of mutual fund capital structure regulation under the Investment Company Act of 1940. Such an examination is long overdue, because American mutual funds collectively hold $12 trillion in assets—about as much as the commercial banking industry—and regulation constrains their use of debt capital very tightly. The Article reaches two conclusions: First, the regulation of mutual funds’ capital structure is incoherent. Although we might imagine several purposes for this regulation, such as limiting risks to investors and the financial system and preventing investor confusion, the regulation is not actually consistent with these purposes. It does both too much and too little to achieve them. Second, although at present the only type of security mutual funds can issue is common stock, there is no compelling reason why they should not also be allowed to issue debt securities. Debt securities might benefit investors by offering a safer and more stable alternative to the common stock of money market funds. Unlike shares in money market funds, debt securities could offer fixed interest rates and the safety of senior priorities. Such a proposal is clearly feasible, because mutual funds already borrow from banks and derivative counterparties and they issued debt securities without problems in the era before regulation.

Keywords: Mutual Funds, Money Market Funds

JEL Classification: G21, G23

Suggested Citation

Morley, John, The Regulation of Mutual Fund Debt (September 26, 2012). Yale Journal on Regulation, Forthcoming; Virginia Law and Economics Research Paper No. 2012-05 . Available at SSRN: https://ssrn.com/abstract=2070884 or http://dx.doi.org/10.2139/ssrn.2070884

John D. Morley (Contact Author)

Yale Law School ( email )

P.O. Box 208215
New Haven, CT 06520-8215
United States
(203) 436-3527 (Phone)

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