On 8 October 2018, the FCA published a consultation paper on illiquid assets and open-ended funds (CP18/27). The original discussion paper on this topic, from February 2017, looked at some of the risks that arise when open-ended investment funds invest mainly in inherently illiquid assets ("IIAs"). Such funds can encounter difficulties if a large number of investors simultaneously wish to redeem their investment. It was published in response to concerns raised in the aftermath of the Brexit vote in June 2016, when liquidity management issues arose in the £35bn open-ended UK commercial property sector, leading to certain UK authorised property funds suspended dealings.
In its new consultation paper the FCA recognise that previous suspensions worked as they were supposed to, preventing wider market disruption. Nonetheless the FCA propose a number of measures to improve the position, as they see it, for a retail scheme (note: not qualified investor schemes) investing at least 50% of its assets in IIAs:
- requiring mandatory suspension of dealings where the standing independent valuer expresses "material uncertainty" over the valuation of at least 20% of the fund's scheme property .
- improving existing liquidity risk management policies, particularly regarding contingency planning tools.
- enhanced disclosure requirements, with a signpost in the name: "a fund investing in inherently illiquid assets"; a new standard risk warning emphasising liquidity risk inherent in IIAs, and better prospectus disclosures.
While improving understanding of retail investors by improving disclosures is important, these proposals may unnecessarily inhibit fund managers' discretion to manage a fund as effectively as they might like in difficult times when the provisions become relevant – notably the new provisions regarding the possibility of discounting the sale price of an asset for a rapid sale; and new guidance on not accumulating cash to meet redemptions.
Responses should be given by 25 January 2019. A policy statement and guidance is expected in 2019, with the changes effective one year after the changes are made.
We still await, with keen interest, a further FCA paper later this year on "patient capital" (investments with longer-term horizons for investment returns). There is an urgent need to expand the range of UK authorised fund options to encompass funds other than open-ended funds investing principally in liquid assets. This should allow access for all investors, including retail investors, to a wider range of funds with longer-term horizons, and a variety of liquid and illiquid underlying asset classes: in each case making the redemption options suitable for purpose.