European Securities and Markets Authority Publishes Final Guidance on Liquidity Stress Tests for Investment Funds

The European Securities and Markets Authority has published a report containing its final guidelines on liquidity stress testing in Alternative Investment Funds and Undertakings for Collective Investment in Transferable Securities. The guidelines have been published in accordance with the European Systemic Risk Board's 2018 Recommendation, which was designed to address liquidity and leverage risk in investment funds. ESMA's guidelines will apply from September 30, 2020.
 
The ESRB's Recommendation included a request for ESMA to produce guidance on the practice to be followed by fund managers for the stress testing of liquidity risk for individual AIFs and UCITS. This Recommendation was designed to promote coherent liquidity stress testing practices within investment funds in order to reduce liquidity risk and strengthen the ability of funds to manage liquidity in the best interests of investors. ESMA published a consultation paper seeking feedback on its draft guidelines in February 2019. ESMA's final report includes ESMA's responses on the feedback it received to its draft guidelines as well as the final version of its guidelines.
 
The guidelines apply to fund managers, depositaries and national regulators. For fund managers, the final guidelines now cover 16 areas including:
 

•          The design of liquidity stress testing models;
•          The extent of a fund manager's understanding of liquidity risks;
•          Governance principles for liquidity stress testing, which should include appropriate reporting and escalation procedures;
•          Documentation of a liquidity stress testing policy; and
•          The frequency of liquidity stress testing.

 
For depositaries, the guidelines state that verification procedures should be established to ensure that a fund manager has established written procedures for its liquidity stress testing program. The depositary is not, however, expected to review the adequacy of the fund's liquidity stress testing. ESMA has also included guidance for national regulators, entitling them to request a fund manager's liquidity stress testing as evidence that the fund will be able to comply with applicable rules. National regulators are also granted discretion to request that fund managers notify them of other information relating to the liquidity stress testing.
 
View ESMA's final report and guidelines.
 
View details of ESMA's consultation paper.
 
View details of the European Systemic Risk Board's Recommendation on funds' liquidity and finance risks.
 
View details of the European Systemic Risk Board's Recommendation on funds' liquidity and finance risks.
 
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