In the Autumn, we reported on new FCA rules on liquidity risk in open-ended funds (click here for our report). Since then there have been a number of further developments showing a continued focus by the UK regulators on this topic.
Guidance to Authorised Fund Manager Boards
In November 2019 the FCA wrote to the boards of all managers of authorised funds (AFMs) outlining their expectations regarding liquidity management urging them to review their liquidity management arrangements against the FCA's Good Practice Guidance. In particular, boards were urged to consider:
- Processes to ensure that fund dealing arrangements are appropriate to strategy;
- The regular assessment of liquidity demands;
- An ongoing assessment of portfolio liquidity;
- Use of liquidity buckets for liquidity risk management;
- Having an independent risk function monitoring liquidity bucket exposures and reporting breaches of exposure limits; and
- Stress testing by managers for extreme but plausible scenarios.
Boards were also encouraged to review the 2018 IOSCO Recommendations for Liquidity Risk Management for Collective Investment Schemes.
FCA and BoE Joint Review
On 16 December 2019, the Financial Policy Committee (FPC) published the initial findings of a joint review by the FCA and the Bank of England on liquidity risks in open-ended investment funds. Reviewing the findings, the FPC noted that if greater consistency between the liquidity of a fund's assets and its redemption terms is to be achieved:
- Liquidity of funds' assets should be assessed by reference to the price discount needed for a quick sale of a representative sample (or vertical slice) of those assets or the time period needed for a sale which avoids a material price discount.
- Redeeming investors should receive a price for their units in the fund that reflects the discount needed to sell the required portion of a fund's assets in the specified redemption notice period, ensuring fair outcomes for redeeming and remaining investors.
- Redemption notice periods should reflect the time needed to sell the required portion of a fund's assets without discounts beyond those captured in the price received by redeeming investors.
The FCA will use the conclusions of this review to inform the development of the FCA's rules for open-ended funds.
Dear CEO Letter to Asset Managers
In its recent "Dear CEO" letter directed at firms in the Asset Management Sector, the FCA stressed again that ensuring effective liquidity management in funds is a central responsibility for any Authorised Fund Manager (AFM) and it remains their responsibility even if they delegate actual investment management to another person.
The FCA has made clear that it expects AFMs to take any necessary or appropriate action to respond to the communications from the FCA referred to above and noted that,
where FCA identifies potential liquidity issues in funds, including through our regular interaction with depositaries, we will ensure that AFMs take prompt action to mitigate or resolve them.