EUROPEAN UNION: EFAMA responds to the FSB consultation on asset management industry vulnerabilities

Thursday September 22 2016

The European Fund and Asset Management Association (EFAMA) has published its response to the Financial Stability Board (FSB) consultative document ‘Proposed Policy Recommendations to Address Structural Vulnerabilities from Asset Management Activities’.

The FSB issues its consultation with the aim of ensuring that any financial stability risks associated with the asset management sector were properly understood and addressed.

In its response EFAMA notes that existing regulatory requirements have provided a solid and effective framework within which such potential vulnerabilities and resulting impact on financial stability can be managed.

The FSB made a number of recommendations in its consultation. Whilst largely welcoming many of these recommendations, it has expressed reservations relating to the following:

FSB Recommendation 9:

Where relevant, authorities should give consideration to system-wide stress testing that could potentially capture effects of collective selling by funds and other institutional investors on the resilience of financial markets and the financial system more generally.

The EFAMA view is that a “system-wide” stress-test would be impossible to implement. Apart from requiring an enormous aggregation effort, considerable human capital and costly computing power by those intended to administer it, its underlying assumptions remain flawed. As long as “system-wide” data remains globally incomplete and with the stress-test design failing to account for a series of key qualitative assumptions and a certain degree of judgment (especially around the complex notion of “liquidity”), EFAMA believes such a proposal will not deliver the intended purpose.

FSB Recommendation 10:

IOSCO (International Organization of Securities Commissions) should develop simple and consistent measure(s) of leverage in funds with due consideration of appropriate netting and hedging assumptions. This would enhance authorities’ understanding of risks that leverage in funds may create, facilitate more meaningful monitoring of leverage, and help enable direct comparisons across funds and at a global level. IOSCO should also consider developing more risk-based measure(s) to complement the initial measure(s) and enhance the monitoring of leverage across funds at a global level.

EFAMA believes that a “simple and consistent” measure(s) of leverage would be already given by the standard definition of leverage expressed as a given fund’s total exposure (in net or in gross terms), divided by the fund’s total NAV. Given the diversity of fund structures across jurisdictions, measuring the total exposure (i.e. the numerator) should not warrant a “one-size-fits-all” approach. For instance, reflecting the fundamental differences between UCITS and AIF structures in Europe, the EU Legislator has recognised at least three different calculation methods to calculate total exposure (as further refined in implementing regulations and Guidelines around the EU UCITS and AIFM Directives) for a specific purpose. For these reasons, EFAMA strongly doubt whether a “simple and consistent” measure(s) of leverage, if feasible, would be informative at all. Alternatively, EFAMA recommends that current calculation methodologies – as tried and tested in Europe for several years – be preserved

FSB Recommendation 12:

IOSCO should collect national/regional aggregated data on leverage across its member jurisdictions based on the simple and consistent measures(s) it develops.

EFAMA notes that as a necessary pre-condition for this data to be sufficiently informative, both fund portfolio and investor categorisations would need to be far more detailed than presently possible. For the measurement to be significant, there would also need to be a globally agreed fund categorisation and a common regulatory understanding of a considerable number of different investment strategies. Only then could aggregating individual leverage figures across funds with identical or very similar asset/liability profiles, as well as investment strategies, yield a rough estimate of the desired degree of leverage, albeit it would represent only one (probably small) corner of the industry. Yet, such a measure would not account for the infinite degrees of interactions between investment funds, their investors and other third-party intermediaries.

Click on the above link to access the complete EFAMA response.