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Action must be taken following the European Securities and Markets Authority (Esma)’s review into Ucits liquidity risk management and market practices which identified shortcomings in documentation, procedures and how methodologies are compiled.
“Without effective regulation in the UK and Europe to ensure more realistic assessments of liquidity, there is a risk that liquidity mismatches in open-ended funds will increasingly threaten financial stability and cause consumer harm,” said Ian Sayers, chief executive of the Association of Investment Companies (AIC), in an email.
Elizabeth Gillam, head of EU public policy and regulatory affairs at Invesco, welcomed the review but stated that “while the findings provide comfort that the EU fund industry is generally in compliance with the rules […], it does underscore the need for a greater focus on enhanced supervision and enforcement of the rules.”
“[The findings] confirm that the EU’s regulatory regime for investment funds provides a robust framework to manage liquidity risks, which was demonstrated during the pandemic-related market turmoil, where the fund industry generally was able to continue to meet investor redemptions despite significant market disruption while making reasonable use of liquidity management tools where necessary,” said Gillam.
Regulators will now follow up with Ucits managers to address these issues.
The framework includes a range of liquidity risk management provisions that aim to ensure investors are able to redeem their investments following a turbulent year. Compliance with the liquidity risk provisions contributes to ensuring investor protection, financial stability and the functioning of financial markets.
“This Esma report adds to the body of evidence produced over the last five years which shows how open-ended funds investing in illiquid assets can cause consumer harm and pose a threat to financial stability,” said Gilliam.
For Sayers the report highlights wider underlying issues in the market.
“The Esma CSA results were published in the same week as the joint Bank of England – Financial Conduct Authority report on liquidity management in UK open-ended funds. Both documents note that open-ended fund managers can be too optimistic about the liquidity of their underlying holdings. This is particularly worrying at a time when policymakers are currently considering greater use of open-ended funds to hold less liquid assets,” he said.
For Gillam the introduction of a consolidated tape in the EU would provide valuable input to asset managers’ liquidity risk management models.
“As the report underlines, access to reliable market data in relation to trading volumes/liquidity, as well as investor profiles are essential for asset managers to effectively assess, model and measure liquidity risks but such data is not available to asset managers in a consistent or consolidated way.”
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