On December 11, 2014, SEC Chair Mary Jo White gave a speech at a New York Times conference in New York, “Enhancing Risk Monitoring and Regulatory Safeguards for the Asset Management Industry.” She had some overdue comments on asset managers and transparency, particularly around securities lending activities. We review her comments and add what we would like to see.
Its no secret that US asset managers provide barely a sliver of transparency into their derivatives activity or securities lending programs. Their annual and semi-annual reports show revenues, and some digging into Statements of Additional Information may show custodians and securities lending agents. Form N-Q documents can provide details including what collateral may be invested in. Besides that however, there is little public information to go on. Our contention is that this lack of transparency contributes to a general worry about derivatives and securities lending as something shadowy. And the fact is, if you do it but don’t disclose much about it, it can look shady.
US SEC Chair White understands this well: “our rules do not require standardized reporting for many types of derivatives used by funds today…. Similarly, we do not today receive the most complete information about securities lending by funds.” That’s a nice way of saying that the SEC is often in the dark about fund activities except when it does a sweep. Clearly, its time for change: “the reporting and disclosure of fund investments in derivatives, the liquidity and valuation of their holdings, and their securities lending practices should all be significantly enhanced.”
We would add some specifics here from a user’s standpoint. We’d like to see quarterly, Form N-Q style disclosure on derivatives and securities lending holdings, collateral held, what collateral is invested in and who the counterparty is. We’d also like to see fees, just like when funds disclose the payment terms of a bond. Then it would be possible to evaluate risk and return on a close to real time basis. When cash is invested in a money fund, we’d also like disclosure on those holdings when they aren’t published anywhere else. And while we’re on the topic, its time for the SEC to allow mutual funds to accept a broader range of non-cash collateral to stay current in the markets. If the SEC wants to modernize, it can do it all in one shot.
Chair White also had some comments on risk controls at the fund level, which we think are a tough call to get implemented at the majority of fund complexes: “Liquidity management and the use of derivatives in mutual funds and ETFs are two key areas of focus by the staff. Inadequate controls in those areas can create significant risks for funds themselves and their investors, as well as raising questions about whether there could be a potential impact on the financial system as a whole.” Of course, a regulatory mandate to monitor liquidity risk would be taken seriously, but that’s a whole new level of sophistication for all but the largest fund managers. Chair White also mentions that stress testing for mutual fund and advisor assets could soon be required, particularly for the largest firms.
SEC speeches, particularly those by Chair White, sound really good when hearing or reading them. The problem comes in implementation. When the SEC held a roundtable on securities lending in 2009, it was thought then that they would get serious about transparency (although famously, one head of securities lending said their firm was flat-out against transparency as bad for the client). Five years and one Dodd-Frank mandate later, there has been no public action out of the SEC on securities lending. Lots of meetings with market participants and the RMA, but no action. With this latest speech, is it time to take the SEC seriously? We’d like to, but we’re going to need to see action before this latest clarion call becomes one more set of empty words and analyses.
Here’s a link to the full speech.