Regulators closing-in on rules to address systemic risk in investment and fund management sectors.
The European Central Bank (ECB), Financial Stability Board (FSB) and International Organisation of Securities Commissions (IOSC) have all issued statements indicating that investment and fund management activities will be caught under the “systemically important” umbrella.
The ECB pronounced in mid-2016 that investment managers pose systemic risk. They cited imperfect liquidity transformation and leverage as the main vulnerabilities of investment fund but acknowledged that the UCITS Directive and the AIFMD requirements help address systemic issues.
The FSB has issued 14 policy recommendations to address “structural vulnerabilities” from investment management activities. Although they first focused on aggregate risk, from 2019 they will work on identifying globally systemically important financial institutions (G-SIFIs) within the investment management sector.
IOSCO has responded to the FSB recommendations and will widen and deepen the collection of data by national regulators, particularly relating to derivatives use, leverage, liquidity and portfolio composition.
While some national authorities have started to implement systemic-risk related regulation in advance of any supra-national edicts, for systemic risk mitigation to be effective there needs to be joined-up thinking.
The European Securities and Markets Authority (ESMA) developed a 2017 Supervisory Convergence Programme that puts connectedness as its priority for the coming year. It seeks a common approach to depositary functions under the UCITS Directive and AIFMD, a follow-up to the consultation on asset segregation under AIFMD, the development of a common procedure to impose leverage limits, and a connected approach to information gathering and sharing of experiences by supervisors in relation to liquidity management tools.
One proposal considers handing ESMA responsibilities that currently fall under the authority of national regulators. ESMA could become a conduct authority, perhaps closer to the US model where the SEC performs the duties of a consumer protection authority.
The US President has ordered a review of the landmark 2010 financial reform law, the Dodd-Frank Act, but it is uncertain whether there will be sufficient support to repeal all or part of the Act.
If the law, which prohibits financial institutions trading for their own accounts, is repealed, it would represent a striking regulatory retrenchment, since the post-financial crisis regulation imposed new oversight and authorised regulatory agencies to address systemic risk.
For investment managers, although the Act initially created much anxiety, its repeal may also create considerable difficulty.