Global regulators are set to squeeze fund managers further on liquidity arrangements over the next few years following the release of updated recommendations by peak financial bodies at the end of 2023.
The revised Financial Stability Board (FSB) proto-rules will put the onus on member regulators to tighten open-ended fund liquidity practices and push managers to use ‘anti-dilution’ tools such as buy-sell spreads.
Among nine reworked recommendations from the previous 2017 iteration, the FSB says regulators should “ensure that managers of open-ended funds consider and use such [liquidity management] tools to mitigate potential first-mover advantage arising from structural liquidity mismatch in open-ended funds they manage, to ensure that investors bear the costs of liquidity associated with fund redemptions, and to arrive at a more consistent approach to the use of liquidity management tools”.
“Such tools should impose on redeeming investors the explicit and implicit costs of redemptions, including any significant market impact of asset sales to meet those redemptions,” the report says.
In conjunction with the FSB release the International Organization of Securities Commissions (IOSCO) – a group of 130 plus members including the Financial Markets Authority (FMA) – published a guide to help embed anti-dilution tools in fund manager regimes.
Carrying the functional title of ‘Anti-dilution Liquidity Management Tools – Guidance for Effective Implementation of the Recommendations for Liquidity Risk Management for Collective Investment Schemes’, the IOSCO report offers design tips for fund managers and ‘responsible entities’ (licensed supervisors in NZ, for example).
As well encouraging funds to establish an appropriate framework around the use and oversight of liquidity management tools (LMTs), the IOSCO guide calls for enhanced disclosure to end investors.
“Responsible entities should publish clear disclosures of the objectives and operation (including design and use) of anti-dilution LMTs to improve awareness among investors and enable them to better incorporate the cost of liquidity into their investment decisions and mitigate potential adverse trigger effects,” the report says.
More broadly, the FSB says fund managers need to better quantify, manage and disclose liquidity risks in their portfolios.
In a statement, Klaas Knot, FSB chair said: “The combined efforts of the FSB and IOSCO aim to mark a step change to liquidity risk management within OEFs [open-ended funds]. A key part of this is a strengthening of the framework around the use of LMTs at a global level. Swift and consistent implementation of these recommendations is critical to addressing financial stability risks arising from liquidity mismatch in OEFs.”
Neither the FSB nor IOSCO reports are binding on members but the two bodies wield significant influence on underlying regulators. The organisations have embarked on a joint “stocktake” of fund liquidity regulations in member jurisdictions expected to complete in 2026.
“The FSB and IOSCO will, by 2028, assess whether implemented reforms have sufficiently addressed risks to financial stability,” a release says. “This will include, if appropriate, assessing whether to refine existing tools or develop additional tools for use by fund managers or authorities.”
Last October the FMA released new draft fund liquidity guidance for consultation, referencing the FSB/IOSCO interim recommendations, with a final version expected this year.