Direct answer: The Reserve Primary Fund held approximately $785 million in Lehman Brothers commercial paper (short-term debt) as of September 15, 2008, the day Lehman Brothers filed for bankruptcy. The day after Lehman's filing, the fund wrote down its Lehman holdings to zero, causing its net asset value to fall to $0.97 per share rather than the standard $1.00. This 'breaking the buck' triggered a run: investors who had assumed money market funds were equivalent to bank deposits withdrew $40 billion in two days. The Federal Reserve was subsequently forced to guarantee money market fund NAVs industry-wide to prevent a broader run on the $3.5 trillion money market fund industry.
Reserve Primary Fund 2008 Autopsy: What Actually Went Wrong?
The investment
Category: Money Market Fund Failure
Era: 2008
Primary failure mechanism: breaking the buck / Lehman Brothers paper / bank run
What investors believed
Money market funds invested in high-quality short-term instruments providing returns slightly above bank deposit rates with effectively zero loss risk.
What broke
Commercial paper from major financial institutions carried credit risk that materialized instantly when Lehman Brothers filed for bankruptcy without a government rescue.
Warning signals that were visible
- Reserve Primary Fund's holdings of Lehman commercial paper were visible in fund disclosures
- Lehman Brothers credit spreads widening throughout 2008 indicating market perception of increasing credit risk
- Other money market funds reducing financial institution commercial paper exposure before the event
- Regulatory framework not requiring money market funds to mark to market or maintain liquidity buffers adequate for run scenarios
Transferable lessons
- Money market funds are not bank deposits: they are investment funds with counterparty exposure to their underlying holdings
- Commercial paper from financial institutions carries credit risk that can materialize suddenly and completely in a crisis
- The implicit government guarantee investors assumed was not explicit until the government was forced to provide it retroactively
- Systemic runs on money market funds can occur rapidly when confidence in the $1.00 NAV convention is broken
Frequently Asked Questions
What does 'breaking the buck' mean?
'Breaking the buck' refers to a money market fund's net asset value (NAV) falling below $1.00 per share. Money market funds price shares at exactly $1.00 per share as a convention, crediting income as additional shares rather than as price appreciation. When the fund's underlying investments lose value, the actual NAV can fall below the $1.00 convention. The Reserve Primary Fund was one of the few money market funds in history to break the buck on a sustained basis, as most others had been rescued by their sponsor companies to prevent it. The $0.97 NAV meant investors who withdrew received 3% less than their nominal account balance.
How did the government respond?
The U.S. Treasury announced a Temporary Guarantee Program for Money Market Funds on September 19, 2008, guaranteeing that any money market fund that had maintained a $1.00 NAV as of September 19 would maintain it for the program's duration. This stopped the run. The program covered approximately $3 trillion in money market fund assets. The Federal Reserve also established a Commercial Paper Funding Facility to purchase commercial paper directly, supporting the market for short-term corporate debt that money market funds typically hold. Post-crisis regulatory reforms required institutional prime money market funds (those most likely to hold riskier assets) to float their NAV rather than maintain the $1.00 convention.
Why did Lehman Brothers fail?
Lehman Brothers filed for Chapter 11 bankruptcy on September 15, 2008, the largest bankruptcy filing in U.S. history at the time. Lehman had accumulated massive exposure to mortgage-backed securities and commercial real estate during the housing boom. As these assets declined in value, counterparties required additional collateral that Lehman could not provide. The Federal Reserve and Treasury declined to provide the same assistance they had provided to Bear Stearns (which had been acquired by JPMorgan with Fed guarantees) or what they would subsequently provide to AIG. Lehman's failure created cascading counterparty losses across global financial markets and was a central event in the 2008 financial crisis.