Brookings on Systemic Risk and the Asset Management Industry
At
December 16th’s Brookings Institution event entitled, “Systemic Risk and the Asset
Management Industry,” experts discussed a recent report by the U.S. Treasury’s
Office of Financial Research (OFR) on Asset
Management and Financial Stability.
OFR
Presentation – Richard Berner
In
an opening presentation, OFR Director Richard Berner stated that while “no
decisions have been made” on whether asset management firms pose any threats or
what remedies may be needed, these firms “could transmit or amplify financial
shocks.” He then noted that of the $53 trillion in assets under management in
the industry, half of this total is held is U.S. domiciled accounts but said
that the “business mix” in the industry is “quite diverse.”
Berner
stated that there are “significant data gaps” in information related to
separate accounts, repo accounts and securities lending that “need to be
addressed” and noted that the forms viewed by the OFR for the study did not
contain information on separate accounts.
Form
PF, for private funds, was not used in the study, but Berner said the OFR has
“just begun” to analyze these submissions to view the risk profiles of private
equity and hedge funds. He said that the preliminary data from these
forms show: 1) the relationship between leverage and the fraction of assets
that are hard to value is inversely related; 2) funds with higher leverage are
more likely to calculate their asset’s value at risk (VaR); and 3) funds with
higher VaR report lower leverage.
Berner
said some factors that may make the industry vulnerable to shocks are: reaching
for yield; herding behavior; leverage; and redemption risk. He then stated
that “the issue is whether liquidity dries up in times of stress” and added
that there is no single regulatory authority overseeing securities lending.
He
concluded by saying the report was “aimed at” providing facts and analysis and
that the Financial Stability Oversight Council (FSOC) will decide if the study
is relevant.
ICI
Presentation – Brian Reid
Brian
Reid, Chief Economist of the Investment Company Institute (ICI), stated that
that the OFR study did not “explore” the decades of experience that the asset
management industry has in dealing with large market fluctuations and that
there is “no evidence” that asset managers transmit risks to the system.
Reid
pointed out that asset managers act as agents rather than principals in the
market, so investment risk remains with investors, and that their funds are
subject to “key investor protections,” noting that there are “walls around”
each individual fund. He also noted that asset management firms: 1) have
a lack of leverage; 2) have a simple capital structure for their funds; 3) show
diversification in investments; 4) hold liquid portfolios; and 5) are subject
to daily valuation of their assets.
Referencing
historical data, Reid said that there was only a “marginal shift” in fund
outflows during the financial crisis of 2008. He said that flows from funds
amount to less than one half of one percent of the size of the capital markets
and average about eight percent of overall trading in the stock markets.
Discussion
and Questions
Berner
reacted to Reid’s presentation saying that flows “may tell part of the story”
but that asset prices tell another part, which should be explored.
Moderator,
Douglas Elliott, Fellow at the Brookings Institute, asked if asset managers are
engaged in activities that can be seen as “reaching for yield” simply because
“people want it.” Berner replied there is “no question” that asset
managers are responding to the needs of their clients and again stressed the
OFR was looking at activities rather than the firms themselves.
Reid
said the OFR took a “logical leap” by saying that “incremental effects” on
prices create systemic problems and that this leap needs to be addressed.
Berner
then stated that “positioning” is of concern to the OFR and said that when
funds “unwind” form a position, they are exposed to duration and volatility
risk. He added that the OFR found evidence of “herding” in small capital
stocks.
A
member of the audience asked Berner what role the Securities and Exchange
Commission (SEC) played in the study. Berner said that the OFR “engaged
frequently” on “all aspects” of the study with the SEC and that the SEC made
“numerous” comments, many of them ultimately being accepted by the OFR.
He stressed that the SEC “worked hand in glove” in “strong” and “complete
engagement from start to finish” on the report.
In
addressing comments on the lack of data for separate accounts, Reid said that
the “industry supports” working with regulators to collect more data, but that
his concern is the “general and potentially damaging label” of systemically
important financial institution (SIFI), which may not address these
issues. He added that “perhaps guidance needs to be updated or
clarified.”
ICI
President Paul Stevens was in the audience and asked why agency activities of
asset managers are being reviewed when the five regulatory agencies who wrote
the Volcker Rule “expressly exclude” agency activities of banks. Berner
said that securities lending is not the subject of any rule but that regulators
are still looking into the subject and that it is important to look at lender
and borrower activity “as a whole across the financial system.”
When
asked to further talk about the review of Form PF, Berner stated that the
preliminary investigation turned up “some results that are contrary to the
usual perception about leverage and hedge funds in particular” and added that
it is “not that risk isn’t being taken” but that the risk “does not accord with
people’s views.”
AEI
Presentation – Paul Kupiec
Paul
Kupiec, Resident Scholar at the American Enterprise Institute (AEI), stated
that the OFR study was widely criticized for viewing asset managers as banks,
and provided no original research, but rather “a nuanced interpretation” of
existing literature. He added that the report does not provide a framework if
asset managers pose systemic risks and it is not clear how the report helps in
the SIFI designation process. Kupiec said his reaction to the report was
that the OFR should “go home and do it again.”
He
said that the “fire sale critique” is not appropriate as this is an issue of
supply and demand, and said that a SIFI designation would impose costs on
investors. He also called the FSOC designation process “a mess” with “little
science and a lot of politics.”
He
concluded that, for asset managers, “the picture is not pretty” and said the
SIFI process is about designating the biggest players.
AFR
Presentation – Marcus Stanley
Marcus
Stanley, Policy Director of Americans for Financial Reform (AFR), stated that
there “should be no question about the systemic risks posed by asset
management,” saying they are pro-cyclical and fuel bubbles. He said that
“the securities lending market is at the center of all of this” and that asset
management funds are important participants in this market.
Stanley
said that funds will “get more involved in the direct lending space” post-
Dodd-Frank and that they can “slide into” becoming market makers if they hold
the most securities.
Stanley
said that the Fed, FSOC, and SEC need to coordinate better as the process thus
far has been “disturbing” and marked by “turf wars.” He concluded that
the Fed is the entity that can determine what role a SIFI designation plays and
that there are many ways to regulate the activities highlighted by the study,
including at the securities level, fund level, subsidiary level, and firm
level.
Brookings
Presentation – Doug Elliott
Elliot,
in his remarks, stated that he does not have a problem with the idea of SIFI
designation and believes that asset managers are important to the market, but
does not think that asset managers are SIFIs currently. He did, however,
state that the industry needs to be better understood and monitored by the
FSOC.
He
said that asset managers “touch many things that contribute to systemic risk”
but thinks “they create or amplify very few risks.” Elliott said he was
“bothered, in the report” on the emphasis on reach for yield and herding and
that these are just “humans and the markets making decisions.” He said
that since this “stuff flows through” asset managers “that is where you can do
something,” but warned that regulation will simply push business to where there
are not limitations.
He
concluded that the areas of concern to be watched are leverage, fire-sales, and
exchange traded funds (ETFs).
Discussion
and Questions
Stanley
said that the promise of short-term liquidity at a stable value and the promise
of long-term returns higher than market level may create vulnerabilities.
He also said that mutual funds impacted the international spread of the
financial crisis as fund flows served as a “channel of hot money.”
Stevens
asked the panel if they believed the FSOC should be more transparent with their
reports, stating that the only reason the industry knew what was in the study
was because the SEC submitted it for public comment. Elliot replied that he
supports more transparency, while Stanley noted that the study was available to
the public on the Treasury’s website as soon as it was published.
For
more information on this event, please click here.
,Blog Tags:,Blog Categories:,Blog TrackBack:,Blog Pingback:No,Hearing Summaries Issues:Capital/Resolution Authority/SIFIs,Hearing Summaries Agency:Special Event,Publish Year:2013
At
December 16th’s Brookings Institution event entitled, “Systemic Risk and the Asset
Management Industry,” experts discussed a recent report by the U.S. Treasury’s
Office of Financial Research (OFR) on Asset
Management and Financial Stability.
OFR
Presentation – Richard Berner
In
an opening presentation, OFR Director Richard Berner stated that while “no
decisions have been made” on whether asset management firms pose any threats or
what remedies may be needed, these firms “could transmit or amplify financial
shocks.” He then noted that of the $53 trillion in assets under management in
the industry, half of this total is held is U.S. domiciled accounts but said
that the “business mix” in the industry is “quite diverse.”
Berner
stated that there are “significant data gaps” in information related to
separate accounts, repo accounts and securities lending that “need to be
addressed” and noted that the forms viewed by the OFR for the study did not
contain information on separate accounts.
Form
PF, for private funds, was not used in the study, but Berner said the OFR has
“just begun” to analyze these submissions to view the risk profiles of private
equity and hedge funds. He said that the preliminary data from these
forms show: 1) the relationship between leverage and the fraction of assets
that are hard to value is inversely related; 2) funds with higher leverage are
more likely to calculate their asset’s value at risk (VaR); and 3) funds with
higher VaR report lower leverage.
Berner
said some factors that may make the industry vulnerable to shocks are: reaching
for yield; herding behavior; leverage; and redemption risk. He then stated
that “the issue is whether liquidity dries up in times of stress” and added
that there is no single regulatory authority overseeing securities lending.
He
concluded by saying the report was “aimed at” providing facts and analysis and
that the Financial Stability Oversight Council (FSOC) will decide if the study
is relevant.
ICI
Presentation – Brian Reid
Brian
Reid, Chief Economist of the Investment Company Institute (ICI), stated that
that the OFR study did not “explore” the decades of experience that the asset
management industry has in dealing with large market fluctuations and that
there is “no evidence” that asset managers transmit risks to the system.
Reid
pointed out that asset managers act as agents rather than principals in the
market, so investment risk remains with investors, and that their funds are
subject to “key investor protections,” noting that there are “walls around”
each individual fund. He also noted that asset management firms: 1) have
a lack of leverage; 2) have a simple capital structure for their funds; 3) show
diversification in investments; 4) hold liquid portfolios; and 5) are subject
to daily valuation of their assets.
Referencing
historical data, Reid said that there was only a “marginal shift” in fund
outflows during the financial crisis of 2008. He said that flows from funds
amount to less than one half of one percent of the size of the capital markets
and average about eight percent of overall trading in the stock markets.
Discussion
and Questions
Berner
reacted to Reid’s presentation saying that flows “may tell part of the story”
but that asset prices tell another part, which should be explored.
Moderator,
Douglas Elliott, Fellow at the Brookings Institute, asked if asset managers are
engaged in activities that can be seen as “reaching for yield” simply because
“people want it.” Berner replied there is “no question” that asset
managers are responding to the needs of their clients and again stressed the
OFR was looking at activities rather than the firms themselves.
Reid
said the OFR took a “logical leap” by saying that “incremental effects” on
prices create systemic problems and that this leap needs to be addressed.
Berner
then stated that “positioning” is of concern to the OFR and said that when
funds “unwind” form a position, they are exposed to duration and volatility
risk. He added that the OFR found evidence of “herding” in small capital
stocks.
A
member of the audience asked Berner what role the Securities and Exchange
Commission (SEC) played in the study. Berner said that the OFR “engaged
frequently” on “all aspects” of the study with the SEC and that the SEC made
“numerous” comments, many of them ultimately being accepted by the OFR.
He stressed that the SEC “worked hand in glove” in “strong” and “complete
engagement from start to finish” on the report.
In
addressing comments on the lack of data for separate accounts, Reid said that
the “industry supports” working with regulators to collect more data, but that
his concern is the “general and potentially damaging label” of systemically
important financial institution (SIFI), which may not address these
issues. He added that “perhaps guidance needs to be updated or
clarified.”
ICI
President Paul Stevens was in the audience and asked why agency activities of
asset managers are being reviewed when the five regulatory agencies who wrote
the Volcker Rule “expressly exclude” agency activities of banks. Berner
said that securities lending is not the subject of any rule but that regulators
are still looking into the subject and that it is important to look at lender
and borrower activity “as a whole across the financial system.”
When
asked to further talk about the review of Form PF, Berner stated that the
preliminary investigation turned up “some results that are contrary to the
usual perception about leverage and hedge funds in particular” and added that
it is “not that risk isn’t being taken” but that the risk “does not accord with
people’s views.”
AEI
Presentation – Paul Kupiec
Paul
Kupiec, Resident Scholar at the American Enterprise Institute (AEI), stated
that the OFR study was widely criticized for viewing asset managers as banks,
and provided no original research, but rather “a nuanced interpretation” of
existing literature. He added that the report does not provide a framework if
asset managers pose systemic risks and it is not clear how the report helps in
the SIFI designation process. Kupiec said his reaction to the report was
that the OFR should “go home and do it again.”
He
said that the “fire sale critique” is not appropriate as this is an issue of
supply and demand, and said that a SIFI designation would impose costs on
investors. He also called the FSOC designation process “a mess” with “little
science and a lot of politics.”
He
concluded that, for asset managers, “the picture is not pretty” and said the
SIFI process is about designating the biggest players.
AFR
Presentation – Marcus Stanley
Marcus
Stanley, Policy Director of Americans for Financial Reform (AFR), stated that
there “should be no question about the systemic risks posed by asset
management,” saying they are pro-cyclical and fuel bubbles. He said that
“the securities lending market is at the center of all of this” and that asset
management funds are important participants in this market.
Stanley
said that funds will “get more involved in the direct lending space” post-
Dodd-Frank and that they can “slide into” becoming market makers if they hold
the most securities.
Stanley
said that the Fed, FSOC, and SEC need to coordinate better as the process thus
far has been “disturbing” and marked by “turf wars.” He concluded that
the Fed is the entity that can determine what role a SIFI designation plays and
that there are many ways to regulate the activities highlighted by the study,
including at the securities level, fund level, subsidiary level, and firm
level.
Brookings
Presentation – Doug Elliott
Elliot,
in his remarks, stated that he does not have a problem with the idea of SIFI
designation and believes that asset managers are important to the market, but
does not think that asset managers are SIFIs currently. He did, however,
state that the industry needs to be better understood and monitored by the
FSOC.
He
said that asset managers “touch many things that contribute to systemic risk”
but thinks “they create or amplify very few risks.” Elliott said he was
“bothered, in the report” on the emphasis on reach for yield and herding and
that these are just “humans and the markets making decisions.” He said
that since this “stuff flows through” asset managers “that is where you can do
something,” but warned that regulation will simply push business to where there
are not limitations.
He
concluded that the areas of concern to be watched are leverage, fire-sales, and
exchange traded funds (ETFs).
Discussion
and Questions
Stanley
said that the promise of short-term liquidity at a stable value and the promise
of long-term returns higher than market level may create vulnerabilities.
He also said that mutual funds impacted the international spread of the
financial crisis as fund flows served as a “channel of hot money.”
Stevens
asked the panel if they believed the FSOC should be more transparent with their
reports, stating that the only reason the industry knew what was in the study
was because the SEC submitted it for public comment. Elliot replied that he
supports more transparency, while Stanley noted that the study was available to
the public on the Treasury’s website as soon as it was published.
For
more information on this event, please click here.