We are in the midst of a Black Swan, an unpredictable event with extreme consequences.
This raises questions for Funds and how they manage these risks, maintain liquidity and most importantly, keep the lights on.
Black Swan events such as these are hard to see coming, naturally. What can be done? Look to the past! At the base level appropriate historical stress testing and VAR analysis can identify weak spots, although not a magic crystal ball these can be useful tools before, during and after a crisis.
In regards to liquidity, the financial system is not a going concern. All it takes is a couple of bad weeks to wipe off years of value. With that investors naturally will be looking the safety of cash. Now we see massive outpourings from bond funds and several UK property funds suspended also.
At the beginning of March, Terry Smith (Fund Smith) raised concerns about Hargreaves Lansdown pushing for daily redemption’s of funds, many of which may hold a degree of illiquid assets. There are ongoing calls for a regulatory overhaul of UCITS rules which currently cap illiquid asset as 10% of portfolio value.
The opportunity here is to learn how to model systems which are more robust and less reactive. Will that happen? We don’t know.
See below for ESMA Guidance on Stress Testing:
https://funds-axis.com/the-16-esma-guidelines-on-liquidity-stress-testing-for-ucits-and-aifs/
