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Statement at Open Meeting on Investment Company Liquidity Disclosure

Chairman Jay Clayton

June 28, 2018

Next, the staff will present amendments to the disclosure concerning liquidity risk management that open-end funds will begin providing next year.  Specifically, we are considering a staff recommendation to adopt amendments to improve how information about open-end funds’ liquidity risk management practices is provided to investors. 

Liquidity risk management is a key component of effective portfolio management and helps ensure that fund investors, including Main Street investors, can promptly liquidate their investments.  To facilitate effective liquidity management practices, in 2016, the Commission adopted significant new liquidity requirements for funds.  This new rule included important reforms, many of which funds will have to implement later this year.  It also created a novel framework whereby funds must classify their assets into one of four liquidity “buckets.”  Starting next year, this “bucketing” information is required to be reported to the Commission as of the end of each month. 

The primary focus of today’s recommendation is the additional requirement that funds provide a qualitative discussion, on a quarterly basis, of their liquidity makeup.  This quarterly discussion is intended to provide investors with meaningful information regarding the fund’s liquidity risk profile and management. 

Assessing and managing the future liquidity of a fund’s portfolio can be a challenging exercise.  I will pause here and note that I used the words “future” and “managing.”   While liquidity in today’s market conditions may be well understood and may provide an indication (perhaps a strong indication) of liquidity in the future, it is liquidity in the future, when market conditions may have changed, that matters most to investors.  Market conditions, and as a result liquidity, can change rapidly and unexpectedly.  Accordingly, projecting liquidity is, in many ways, a portfolio-specific exercise that relies on subjectivity, and managing liquidity is a continuous exercise. 

These market realities provide insight into why liquidity risk management generally has been based on judgments about the future of the portfolio managers and traders who are analyzing and trading in markets on a daily basis.  To be sure, these judgments are informed by quantitative analysis.  But, to add further complication, the quantitative analysis often is not based on bucketing or a similar classification. 

This brings us to the question of requiring, in addition to the qualitative discussion of liquidity risk management, quantitative aggregate bucketing disclosure as of the end of each quarter.  Many commentators believe this information would be meaningless and has the potential to be misleading.  For example, the information could appear to provide a meaningful basis for comparison across funds when, due to the subjective nature of classification and the differences in portfolio size and makeup, no such conclusion should be drawn.  Other commentators believe that, while the information may be of limited incremental value and has the potential to confuse or mislead, investors, presumably with the assistance of disclosure that cautions against placing comparative or predictive value in quarterly bucketing disclosure, could reasonably assess whether and to what extent the information is valuable to them.         

On this score, I agree with the approach in the proposal before us today.  Let us – the Commission – take in the new bucketing data and analyze whether, and in what form, its disclosure should be required, before mandating its disclosure.  I look forward to the Commission gaining experience with the classification data once funds start reporting it to us next year.

To be clear, we are in no way restricting the use of quantitative data in liquidity risk management disclosure, including bucketing data.  Under the rule amendments, funds may include quantitative metrics in their liquidity risk management disclosures if they believe it would assist investors.  I encourage funds to explore this option.   

Finally, with that lengthy explanation, and I look at the staff when I say this, if this proposal is adopted, we are far from finished in this area.  The adopting release commits the staff to undertake an evaluation of the operation of the rule, and the classification process in particular, after the Commission has gained a year’s worth of experience with the actual data being produced.  This evaluation will include, among other things, assessing the utility, reliability, and comparability of classification information reported to the Commission.  With this assessment in hand, the staff will determine whether there are common quantitative metrics that allow for comparisons across similarly situated funds that can and should be disclosed to investors and the markets.  The evaluation also will include an assessment of whether the Commission should consider moving to a more principles-based approach to liquidity classification, as suggested by the Treasury’s report on asset management.  I encourage all market participants, and in particular fund investors, to share their views with us.

Before I turn the proceedings over to Dalia Blass to discuss the staff’s recommendations, I would like to thank the staff for their dedication and thoughtful work on enhancing liquidity risk management for the benefit of fund investors, who are predominately Main Street investors.  This has not been an easy task.  Even after the liquidity risk management rule was proposed and adopted, staff continued outreach and efforts to address questions and challenges associated with implementation.  At the end of this, the recommendation takes into account the negative consequences of confusion by investors and the markets, and commits the staff to evaluate the data and, with that experience, assess the appropriate path forward.  This is a responsible and measured regulatory approach. 

For their dedication to protecting investors and the markets with this recommendation, I would like to thank Dalia Blass, Sarah ten Siethoff, Thoreau Bartmann, Zeena Abdul-Rahman, and Melissa Gainor in the Division of Investment Management; Bob Stebbins, Meridith Mitchell, Lori Price, Marie-Louise Huth, Bob Bagnall, Monica Lilly, and Dan Matro in the Office of the General Counsel; and Chyhe Becker, Hari Phatak, Jim McLoughlin, Bridgett Farrell, and Jennifer Juergens in the Division of Economic and Risk Analysis.

Now, I will turn it over to Dalia Blass, our Director of the Division of Investment Management.

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