UK Conduct Regulator Consults on Illiquid Assets and Open-Ended Funds
10/08/2018The U.K. Financial Conduct Authority has launched a consultation on illiquid assets and open-ended funds, following responses from stakeholders to a discussion paper it issued early in 2017. After observing the impact of certain temporary fund suspensions following the U.K.'s 2016 referendum on exiting the EU, the FCA considers that open ended funds investing in illiquid assets have a potential structural liquidity mismatch which, under stress, can create a "first mover" advantage that may lead to runs on funds and sales of fund assets at reduced prices.
The FCA is consulting on a number of proposals to alleviate the risk of poor outcomes to retail investors in open ended funds, specifically non-UCITS retail schemes (NURSs), that invest in illiquid assets. The consultation includes a proposed approach to defining "inherently illiquid assets," examples of which include property or infrastructure investments.
In addition to the responses received to its discussion paper, the FCA's consultation proposals are also informed by its supervisory work and by the revised version of the Recommendations on Liquidity Risk Management for Collective Investment Schemes published in February 2018 by the International Organization of Securities Commissions.
In summary, the FCA proposes to amend the Collective Investment Schemes sourcebook of its Handbook with new rules and guidance on the following:
- To reduce the risk of harm to certain groups of investors when fund managers apply pricing adjustments, the FCA proposes rule changes to: (a) require managers of NURSs holding immovables to suspend dealing when there is material uncertainty about at least 20% of the value of the scheme property; and (b) require managers of NURSs to suspend dealing when at least 20% of the value of the scheme property is invested into other funds which have been suspended due to material uncertainty.
- To improve liquidity management, the FCA proposes to: (a) introduce new rules and guidance for NURSs on setting a fair and reasonable value for an immovable to achieve a rapid sale; (b) introduce new rules for funds investing in inherently illiquid assets (FIIAs) on improving contingency planning and new rules requiring depositaries of FIIAs to provide oversight of fund managers' liquidity management; and (c) set out new guidance on the use of liquidity buffers and suspensions.
- To improve disclosure to make it less likely that consumers invest in funds which are not suitable for their needs, the FCA proposes to: (a) require FIIAs to improve prospectus disclosures and to add a warning "- a fund investing in inherently illiquid assets" in the final part of a fund's name in written communications to retail investors; and (b) require FIIAs and relevant intermediaries to include a risk warning in financial promotions that relate to FIIAs.
Responses to the consultation are invited by January 25, 2019. The FCA intends to publish a Policy Statement in 2019. The FCA expects the new rules and guidance to come into effect in 2020. The FCA also proposes to publish a related paper later in 2018, which will explore approaches and issues relating to so-called patient capital, where investors make long term investments, such as in infrastructure projects, with longer term horizons for investment returns.
View the Consultation Paper (CP 18/27).
View the Discussion Paper (DP 17/1).
View details of IOSCO's Liquidity Risk Management Recommendations.
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