At its open meeting on Thursday, the Securities and Exchange Commission adopted liquidity rules for mutual funds and ETFs—called “sweeping” and “transformative” by Chairwoman Mary Jo White—that aim to allow fund boards, the SEC and investors to “better monitor liquidity risks” in those investing vehicles.
In introducing the new rules approved during the meeting, White said they were meant to “modernize and enhance liquidity risk management” and improve reporting on fund holdings by registered investment companies for mutual funds and exchange-traded funds (ETFs).
White characterized the new rules as part of her nearly two-year-long effort to institute “a series of transformative reforms” meant to “enhance the SEC’s oversight and regulation of the asset management industry,” and for the Commission to catch up with changes in that industry.
In a brief interview with CNBC following the SEC meeting, White said fund holdings in illiquid investment would be capped at 15% of the portfolio, and while she said the SEC would provide “guidance” as to what holdings could be considered illiquid, the funds themselves would make the final determination. She said the goal was to institute a “minimum requirement for highly liquid” holdings.
Specifically, funds will now be required to report information monthly about their complete portfolio holdings to the SEC monthly using the new Form N-PORT, and do so annually using Form N-CEN. The “census-type information” in those forms will be provided in a “structured format immediately useful for analysis,” and will include information on the funds’ use of “derivatives, basic risk metrics, securities lending activities, liquidity and pricing of portfolio instruments.”
Each of the investments in a fund portfolio will be placed into one of four liquidity categories, “based on the number of days in which the fund’s investment would be convertible to cash in current market conditions without the sale significantly changing the market value.” In addition, every fund must designate a “minimum amount that the fund must invest in highly liquid investments convertible to cash within three business days without significantly changing the investment’s market value.” Finally, there is the requirement that illiquid assets will be limited to 15% or less of the fund’s net assets.
The SEC said the “controls around the accumulation of illiquid positions have been tightened,” promising increased oversight when a fund “dips below its highly liquid investment minimum or exceeds the limit on illiquid investments.”
Timothy Cameron, the head of SIFMA’s Asset Management Group (AMG), said that while the industry group was still reviewing the final rules, it lauded the SEC for “showing thoughtful consideration of comments by SIFMA AMG and others,” including changes to the proposed classification systems” of the liquidity categories (from six to four) which Cameron said would “reduce unnecessary complexity,” along with changes to the original “three-day liquid asset minimum.”
The Investment Company Institute was less complimentary, with ICI President and CEO Paul Schott Stevens releasing a statement noting that “this is a tough set of new rules that will spur a number of operational changes across the registered fund industry,” and will “likely add complexity and cost.”
But the ICI said it was “extremely disappointed” that the new rules didn’t include making online delivery the default method for RICs to send annual and semi-annual reports, and said it would continue to advocate for that change with the SEC.
The SEC said in a statement that while it received many comments pro and con on the online default, it didn’t include any recommendation because it wants to protect the rights of investors who prefer to receive those fund company reports “in the mail.” It also said it will continue to study how to “define and limit,” in the words of an NYSE-filed proposal, the “processing fees that funds, and ultimately their investors, must pay to broker-dealer intermediaries.”
The new rules for larger fund companies to start filing their N-PORT and N-CEN reports is June 1, 2018. For fund companies will less than $1 billion in net assets, the deadline to start filing those reports will be June 1, 2019.
In a separate SEC action today, the Commission amended its existing rules to allow open-ended funds—but not money market funds or ETFs—to use ‘swing pricing,’ which the SEC defined as “adjusting a fund’s net asset value to pass on to purchasing or redeeming shareholders costs associated with their trading activity.” The benefit of such swing pricing is to mitigate the potential dilution of investors’ shares in a fund after other investors have redeemed a fund’s shares, and to “better manage fund liquidity.”
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