As part of its continuing initiative to enhance monitoring and regulation in the investment management industry, the Securities and Exchange Commission (SEC) issued three new rules on October 13, 2016: “Investment Company Liquidity Risk Management Programs,” “Investment Company Reporting Modernization,” and “Investment Company Swing Pricing.”
Liquidity Risk Management
Rule 22e-4 requires open-end funds (including ETFs but excluding money market funds) to establish and adopt liquidity risk management programs that include the following key items:
Assessment, management and review of an open-end fund’s risk of liquidity and its ability to meet redemption requests without significant dilution to remaining shareholders.
Classification of each portfolio investment or asset class, if permitted, into the following liquidity categories based on the number of days the investment could be expected to be converted to cash: highly liquid, moderately liquid, less liquid and illiquid.
Determination of a minimum percentage of net assets that must be invested in highly liquid investments and adoption of policies to respond to shortfalls in that minimum if that were to occur.
Board approval of liquidity risk programs and at least an annual board review of the programs’ effectiveness.
Requirement that illiquid investments will be subject to a 15% limitation, with the definition of liquidity being further enhanced in accordance with the new classifications that are part of the Rule.
Confidential filing of Form N-LIQUID when illiquid assets exceed the fund’s policy or the 15% limitation.
To enhance transparency, modernize reporting information and improve the quality and type of information disclosed to investors and the SEC, the SEC adopted various new rules and amendments to existing rules requiring the following:
Form N-PORT will report portfolio-wide and position-level investments on a monthly basis. This will include data related to pricing, information regarding securities lending, repo agreements, terms of derivative contracts and counter-party exposure.
Form N-CEN will replace Form N-SAR and will be filed annually, 75 days after year-end. This will provide information regarding service providers and other disclosures to shareholders.
Amendments to Regulation S-X and Form N-1A will require enhanced and more standardized disclosure of derivative holdings, and related information and securities lending information.
Compliance dates for liquidity risk management are December 1, 2018, for fund complexes with $1 billion or more in net assets and June 1, 2019, for fund complexes less than $1 billion in net assets.
Fund complexes with net assets of $1 billion or more will be required to begin filing reports on new Forms N-PORT and N-CEN after June 1, 2018, while fund complexes with less than $1 billion in net assets will be required to begin filing reports on Form N-PORT after June 1, 2019. The changes to Regulation S-X and Form N-1A will take effect on August 1, 2017.
A rule amendment will permit open-end funds (excluding ETFs and money market funds) to use “swing pricing” to mitigate the dilution of existing shareholders from transaction-related costs incurred by a fund when investing proceeds from subscriptions or selling assets to meet redemptions. An open-end fund must establish policies and procedures related to swing thresholds and upper limits on swing factors, which are not to exceed 2%. The policies must be approved and periodically reviewed by the board and requires certain disclosures to shareholders. Open-end funds will not be permitted to use swing pricing until two years after publication of the amendment in the Federal Register.
Cohen & Company is not rendering legal, accounting or other professional advice. Any action taken based on information in this blog should be taken only after a detailed review of the specific facts and circumstances.