Statement on Open-End Funds
Nov. 2, 2022
Today, the Commission will consider whether to propose amendments to enhance the liquidity risk management of open-end funds. I’m pleased to support the proposal because, if adopted, it would promote investor protection and greater resiliency for open-end funds.
A defining feature of open-end funds is the ability for shareholders to redeem their shares daily, in both normal times and times of stress. Open-end funds, though, have an underlying structural liquidity mismatch. This is because they invest in securities across a range of liquidities, including securities that are costlier or take more time to sell.
In times of stress, when many investors may redeem their shares in a fund at once, a fund might need to sell less-liquid securities quickly to generate cash. When done in volume, this can raise issues for investor protection, our capital markets, and the broader economy. We saw such systemic issues during the onset of the Covid-19 pandemic, when many investors sought to redeem their investments from open-end funds. The resulting liquidity challenges contributed to stress across our financial system.
Today’s proposal addresses these investor protection and resiliency challenges in four ways:
- Updating and enhancing the liquidity rule for open-end funds;
- Requiring mutual funds to use a liquidity management tool called swing pricing;
- Requiring mutual funds to make fund order processing more timely; and
- Enhancing the disclosure requirements for open-end funds.
First, today’s proposal would amend the 2016 liquidity rule, making liquidity classifications more standardized and specific. In particular, this would help ensure that when funds designate an investment as highly liquid or moderately liquid, these terms have specific meanings that are applied consistently across funds. I cannot—try as I might—classify gummy bears as one of my daily servings of fruit. Similarly, under the proposal, funds would not be able to classify the liquidity of certain holdings without following objective standards.
Further, the proposed revisions to the liquidity rule establishes a minimum for the amount of highly liquid assets a fund must maintain. In addition, the proposal would broaden the scope of the assets classified as illiquid—which funds are required to limit in their portfolios. Taken together, these amendments to the liquidity rule would further enhance fund liquidity, which would reduce risk during stress times.
Second, a goal of today’s proposal is to ensure that redeeming shareholders, rather than remaining shareholders, bear the cost of redemptions, particularly during stress times. To manage that, the proposal includes a liquidity management tool called “swing pricing.” The release also includes questions about alternative liquidity management tools, such as the use of liquidity fees. We look forward to comments on how such liquidity management tools—both swing pricing as proposed and the alternative of using liquidity fees—could best achieve the goal that redeeming shareholders, particularly in times of stress, bear the appropriate cost associated with their redemptions.
Third, today’s proposal addresses a current lag between when shareholders send in their fund order and when funds receive that critical information. Currently, shareholders who want to transact based on the 4 p.m. ET fund close must send their order prior to 4 p.m. ET. Funds, though, may not receive that information until the evening, or even in some cases the following morning. Using modern technology, I believe that we can shorten this lag. Under the proposal, funds would receive this critical information earlier. That is helpful particularly in stress times, when funds may need to sell holdings.
I think this would lower some systemic risk. I would note that there are some funds that currently use a so-called “hard close.” Further, such a hard close could facilitate swing pricing if we were to adopt that aspect of our proposal. I am particularly interested in public comment on this aspect of the proposal.
Finally, today’s proposal would bring investors and regulators greater transparency about funds, by requiring open-end funds to file reports monthly rather than quarterly, with each monthly report going to the public.
I think that this proposal, if adopted, would help to build resiliency for these funds. That helps investors.
I would like to thank the SEC staff involved in this proposal, particularly:
- William Birdthistle, Sarah ten Siethoff, Brian Johnson, Angela Mokodean, Mykaila DeLesDernier, Rachel Kuo, Nathan Schuur, James Maclean, Michelle Beck, Holly Miller, Michael Republicano, Tim Dulaney, Trevor Tatum, Daniel Stemp, Juan Carlos Forero, Isaac Kuznits, and Guang Yang in the Division of Investment Management;
- Jessica Wachter, Alex Schiller, James McLoughlin, Dasha Safonova, Lauren Moore, and Charles Woodworth in the Division of Economic and Risk Analysis;
- Meridith Mitchell, Malou Huth, Natalie Shioji, Bob Bagnall, and Monica Lilly in the Office of the General Counsel;
- Song Brandon in the Division of Examinations; and
- Corey Schuster in the Division of Enforcement.
 As a report from the Financial Stability Oversight Council said about the matter: “The impact of these asset sales … was magnified by poor liquidity and stressed trading conditions. Open-end funds were not the sole or primary cause of market stress … but the size of their asset liquidations indicates that they were one of the significant contributors to this stress.” https://home.treasury.gov/news/press-releases/jy0587.