Good, bad or indifferent? The FCA is making moves to correct what it sees as small problems with illiquid funds, but what will be the impact for fund managers?

It’s June 24th and the markets are struggling to come to terms with the shock vote to leave the EU. Sterling has plummeted and investors are doing what they always do in these situations: panic. Chaos gripped the open-ended property market as investors scrambled to pull their money out before a crash with several leading funds being forced to suspend trading. It’s events like this that highlight the danger of illiquid funds.

At the start of October, the FCA announced it would be launching a consultation on tweaks to the rules surrounding these types of funds. In general, they feel things are working pretty well. While some funds were forced to suspend trading after the Brexit vote, they believe the management tools did what they were supposed to and got the funds back up and running by the end of the year. Even so, there are areas for improvement which is why they’ve introduced the following proposals.

  • Trading suspensions: If the independent valuer feels concerns about the value of ‘immovables’ such as commercial property, funds should suspend trading.
  • Contingency planning: Managers of illiquid funds should produce contingency plans for what happens if the liquidity risks come home to roost.
  • Oversight: Depositaries will oversee the liquidity management processes in these funds.
  • Reporting: These funds should disclose more information about their liquidity risks, what tools the managers have at their disposal to control liquidity, the circumstances in which these will be used and what impact they will have on investors.

Here’s what Christopher Woolard, Executive Director of Strategy & Competition at the FCA had to say:

“As well as better protecting consumers, these changes should help to protect and enhance the integrity of the UK financial system,” he explained. “They will increase investors’ understanding of, and confidence in, how funds holding illiquid assets are managed. We expect these changes to result in fewer runs on funds holding illiquid assets, and to reduce complaints from retail investors about perceived unfair treatment when they exit such funds.”

Already, though, these proposals have run into some opposition. Investment Week reports that asset managers had warned that multi asset funds may have to suspend trading if only 20% of their assets were invested in suspended funds.
Back in March Investors in Aviva responded to the discussion paper on illiquid funds by raising concerns about the reputational impact of being the first fund asked to stop trading. They were the last fund to lift the suspension on its property trust in December 2017.

Fund managers may decide to restrict the amount of illiquid assets they hold to avoid falling afoul of the rules. While this would undoubtedly boost the liquidity of these funds, it would impact diversity.

However, others have supported the proposals saying it would reduce first mover advantage in which some cash out of the funds while others are stuck in them. Others argue that it ignores the main question of why investors choose open ended funds when there are better alternatives available to them.

The Discussion Paper will be open for responses until January 25 2019 and you can submit any comments via their feedback form.