Liquidity “not an exact science” regulators warned

US asset managers warn against imposing overly strict rules on liquidity measurement.

Liquidity cannot be measured in the exacting ways regulators are seeking to impose, the US Securities and Exchange Commission (SEC) has been warned by an asset management group.

In a response to the SEC’s recently proposed liquidity management rules, the Securities Industry and Financial Market Association’s (SIFMA) asset management group said the rules as they stand are far too rigid and could be detrimental for end investors.

The liquidity management rules will apply to open-end funds, including mutual funds, and exchange-traded funds. They provide ways of defining liquid and illiquid assets across six different liquidity categories, with knock-on effects for how risk is calculated for the affected funds.

Timonthy W Cameron, head of SIFMA’s asset management group, said: “Liquidity is a fluid and dynamic concept which cannot be measured with the exactness proposed in this rulemaking, especially for fixed income instruments and other instruments traded over the counter.

“Funds will, by their nature, vary in their subjective approaches to liquidity classifications.  As proposed, the SEC’s liquidity risk management program, which requires objectivity, would have a detrimental impact to funds and investors.”

SIFMA argues that the rules, which will see funds make fine-tuned distinctions about the liquidity of specific holdings, this will not improve either the fund’s or the SEC’s understanding of their true liquidity as they will often be subjective and arbitrary judgements.

It further calls on the SEC to undertake a more flexible approach that will enable funds to establish their own liquidity risk management practices based on a set of sound principles and which takes into account specific circumstances affecting a fund.

SIFMA’s response said: “Instead of requiring funds to classify portfolio assets according to a six-category ‘days-to-cash’ system – which seeks to impose a level of precision and granularity that is not feasible in today’s marketplace – SIFMA recommends an alternative approach that would have funds classify the liquidity of portfolio assets using a spectrum-based approach which is relative in nature across four different liquidity categories.”

It also called for the SEC to drop a proposal to implement a three-day liquid asset minimum – a cash buffer to help funds deal with liquidity risk situations – saying it would hamstring a fund’s ability to deploy its investment strategy and could actually increase liquidity risk in some cases. It proposed instead asking funds to identify a target percentage of high liquid assets that they should hold in order to deal with liquidity risk events.

The SEC’s proposals were announced at the end of September last year, with the comment period coming to a close on 13 January. Final rules are expected to be published later this year.