Speakers of the session
Secretary General, Financial Stability Board (FSB)
Chief, Global Financial Stability Analysis Division, International Monetary Fund (IMF)
Director of the International Relations Office, Commissione Nazionale per le Società e la Borsa (CONSOB)
Head of Public Affairs, Finance and Strategy, Amundi
Senior Vice President, Managing Director and Chief Investment Officer, Cash, Federated Investors (UK) LLP
Objectives of the sessionThis roundtable discussed the possible systemic risks and vulnerabilities associated with asset management and other market-based finance activities such as money market funds and securities financing transactions, whether current or proposed policy measures were sufficient to appropriately mitigate these risks and additional measures that may be needed.
Points of discussion
What is the importance of liquidity and leverage risks associated with asset management activities and are they appropriately mitigated?
- Are liquidity and redemption risks developing with the expansion of investment funds offering regular redemptions and with more fragile market liquidity? Are the investments of funds in illiquid assets increasing? Do such risks threaten financial stability and how may they spread to other parts of the financial system? May they have potential impacts on the functioning of the underlying primary or secondary securities markets? Do mutual funds pose significant leverage risks through their derivatives positions? Are specific risks associated with ETFs or loan-origination funds?
- Are existing EU fund regulations and investment fund rules / tools sufficient to mitigate or limit liquidity and redemption risks associated with asset management activities? What evolutions of fund product features or of the securities market structure could be considered to mitigate such risks? Should any additional regulatory tools be considered? Should stress testing play a greater role? Should data on potential liquidity mismatches or disclosure on fund liquidity be more systematic?
Are risks associated with MMFs appropriately addressed by the MMF regulation project as reviewed by the EU Parliament?
- What are the key issues that still need to be debated? Do some items need to be improved or modified in the EU legislative proposal?
- Does MMF regulation raise any consistency issues at the international level?
Do some vulnerabilities associated with other market-based finance activities remain to be addressed and how to track future developments in this area?
- Do some risks remain to be considered related to market-based finance e.g. interconnectedness, procyclicality, risk of fire sales?
- What type of monitoring system can help to track future developments in this area? What are the key issues remaining to be addressed?
- What can be expected from the on-going work at the global level on the central clearing of SFT and haircut floors for non-centrally cleared SFT? Do any additional issues need to be addressed?
Background of the sessionDeveloping asset management and market-based finance is at the core of the CMU objective to further diversify the funding of the EU economy. Concern has however been raised by regulators in the EU and at the global level that following an increase in the assets managed by investment funds since the crisis and more fragile liquidity in the market, a growing amount of investments are made in less-liquid assets (e.g. emerging market or high yield bonds), while the redemption conditions of investment funds have not evolved, many of them offering redemptions on a daily basis. The IMF has also pointed out run and herding risks in the mutual funds area. Indeed, large redemptions can possibly occur if investors see others withdrawing and the cost of reduced liquidity is then passed on to the remaining investors in the pricing of shares (first-mover advantage). In addition, the frequent evaluation of funds against benchmarks may lead to “herding” behaviour among fund managers.
The FSB and IOSCO led two consultations in 2015 regarding methodologies for identifying Non-Bank Non-Insurance G-SIFIs including potentially some asset management entities, but decided to refocus primarily on the possible systemic risks associated with asset management activities (rather than entities) and in particular on liquidity and redemption risks. A “product and activity” approach has been called for by many asset managers, who also consider that systemic risk mitigation needs to be approached on a market-wide basis, risks being common to all financial market participants, and should not only concentrate on specific players or entities. They moreover reject the application of bank-like prudential measures, explaining that risks are generally not taken on their balance sheets due to their agency business model.
Industry players acknowledge that more work has to be done to get a firm grounding on liquidity or redemption risks, however they generally do not believe that these risks may really threaten financial stability and claim that examples of mass redemptions are very limited except for Money Market Funds (MMFs). Different tools are available to manage liquidity and redemption risks, for example limits on illiquid assets, swing pricing, gates and fees, stress testing, etc. Many of these mechanisms can potentially be used for UCITS and AIFMD funds, although this may vary across EU jurisdictions. An issue that may require further investigation as well according to regulators is the use of leverage and derivatives in the asset management sector and its implications. UCITS for example have specific rules in place regarding borrowing (limited to 10% of assets for short term purposes) and the use of derivatives.
The assessment of systemic risks associated with asset management activities is part of a broader effort to address financial stability risks in the so-called shadow banking sector. Reducing the susceptibility to runs of Money Market Funds (MMFs) is a key objective in this perspective. In the EU, regulatory proposals for mitigating potential systemic risks posed by MMFs were made by the European Commission in 2013 and the EU Parliament (EP) report was adopted in April 2015. The EP has chosen not to impose a capital buffer but instead to limit the use of a constant NAV to retail funds or those mainly invested in public debt. The creation of a new type of MMF (Low Volatility NAV MMF), which may continue to use a stable NAV in more limited conditions, was also proposed. The EU Council is currently working on its own position regarding the proposal.
Another important regulatory objective regarding market finance is to dampen financial stability risks posed by Securities Financing Transactions (SFTs). Regulators consider that SFTs including securities lending and repo agreements may contribute to build excessive leverage as well as maturity and liquidity mismatched exposures. Policy recommendations were developed by the FSB in 2013 including enhanced transparency, regulation of securities financing and improvement of market structure. In the EU a regulation was adopted in 2014 regarding SFT (SFTR) including measures to improve transparency and limit the re-use of collateral. The FSB has also published a regulatory framework for haircuts on non-centrally cleared SFTs, providing numerical haircut floors that notably aim to limit the build-up of leverage and reduce the procyclicality of that leverage. Standards have also been developed for the collection and aggregation of data, relevant for financial stability monitoring.
Finally, an initiative has been launched by the FSB to establish a system-wide monitoring framework that authorities may use to track developments in the shadow banking sector, applying a new activity-based economic function approach. This approach is intended to help authorities detect and assess the sources of financial stability risk in the non-bank financial space and apply appropriate policy measures where necessary to mitigate these risks. Issues with data availability and the consistency of assessments across jurisdictions however remain to be addressed.