UNITED STATES: SEC – Fund Liquidity Speech

Wednesday August 12 2020

A speech has been made by Dalia Blass, Director – Division of Investment Management, SEC regarding the fund liquidity, impact of COVID-19 and operational challenges.

Fund Liquidity: Over the last few months, some funds faced a significant level of redemption activity as investors sought to shift long-term assets into short-term, highly liquid instruments. More broadly, mutual funds across all asset classes experienced net outflows while government money market funds grew to unprecedented levels, reflecting this broad shift. Funds with elevated levels of redemption activity can face liquidity challenges or the risk that remaining shareholders will face dilution.

The Commission took significant steps to address these risks by adopting liquidity rule 22e-4 and a modernized framework for liquidity risk management. The rule requires funds to “kick the tires” to uncover potential problems and risks. Specifically it requires funds to take stressed market conditions into account as they assess and manage liquidity risk to anticipate liquidity needs. By doing so, funds can establish a game plan for dealing with a variety of circumstances. The rule does not create a rigid structure for engaging in this analysis, or specify the frequency or manner in which any stress testing elements must be conducted. Instead the rule allows funds to structure and design any stress testing elements they use as appropriate for that fund.

In addition, recent events have caused me to wonder whether some of the liquidity tools that are available to funds, such as swing pricing and redemption fees, have been underutilized. Both have the potential to ameliorate the risk of dilution when redemptions increase. This was a critical policy goal for the Commission when it adopted rule 22e-4. Should explore whether swing pricing has been effective during the recent market disruptions in jurisdictions that have put it into practice. If it had a proven effect, what concrete steps could or should the Commission and other regulators take to ensure swing pricing can be operationalized in the U.S.? If that is not possible, should funds instead be required to impose redemption fees to protect the interests of remaining shareholders? Are there other approaches should consider to protect remaining shareholders?

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