Regulators tighten screw on investment fund redemptions

By Huw Jones

LONDON (Reuters) -Global regulators on Wednesday proposed tougher rules for investment funds to increase their resilience to market shocks as they clamp down on “non banks” which account for about half the world’s financial sector.

Central banks had to inject liquidity into markets in March 2020 during COVID-19 lockdowns as money market funds struggled in the face of a “dash for cash” to meet promises of daily redemptions.

Property funds aimed at retail investors have also been offering daily redemptions and some have faced multiple suspensions in recent years due to market turbulence.

The Financial Stability Board (FSB) of financial regulators from the G20 countries has proposed revising its principles from 2017 to end “liquidity mismatches”, so that open-ended funds only offer investors redemption terms that reflect the ability of their assets to pay on time, particularly in stressed markets.

The IMF has said open-ended funds contained $41 trillion in assets last year, a fifth of non-bank assets, and that liquidity mismatches posed risks to financial stability.

In a document out to public consultation, the FSB proposed a new categorisation for funds across three “buckets” to reflect liquidity of assets, each with specific redemption terms and conditions.

For funds that invest over 50% in liquid assets, daily dealing would remain appropriate.

Funds that invest mainly in less liquid assets could still offer daily redemptions if they can show regulators an ability to use specified “anti-dilution” liquidity management tools (LMTs), or else they must tighten redemption terms, the FSB said.

LMTs include being able to deduct a fee from redemptions to end “first-mover advantage”, or investors who rush for the exits leaving those remaining worse off.

The third “bucket” is for funds investing 30% or more in illiquid assets, and they should create and redeem shares less frequently than on a daily basis, or require long notice or settlement periods, the FSB said.

A spokesperson for ICI, a global funds industry body, said regulators should not mandate any single tool as the preferred LMT as a flexible approach would be more valuable, and that the “unsubstantiated” hypothesis of first mover advantage should not be the basis of public policy.

To accompany the proposals, global securities watchdog IOSCO proposed detailed guidance for asset managers to calculate and apply LMTs.

“There are parts of the world where these LMT tools are hardly used and for those parts of the world it’s a big lift,” Martin Moloney, IOSCO secretary general, told reporters.

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