BlackRock and Vanguard divided over stress tests for mutual funds

BlackRock has come out in favour of proposals by global regulators to introduce more stringent stress tests on mutual funds, pitting the world’s largest asset manager against its rivals, who are opposed to the plans.

A number of asset managers have already begun voluntary stress testing of their funds to ensure they can meet redemptions during times of market upheaval, and many are unhappy about being forced to collect and send this data to regulators due to the costs involved.

The Financial Stability Board, the Basel-based organisation that monitors the global financial system, proposed regular stress testing of individual funds in June in a bid to ensure asset managers have sufficient means to meet withdrawal requests from investors.

BlackRock said in its written response to the FSB: “We believe there is merit in developing principles for the stress testing of individual open-ended funds. Liquidity risk stress testing is one tool that can be helpful to ensure fund managers are maintaining appropriate liquidity.”

However, Vanguard, the world’s second-largest fund house, said asset managers should be left to carry out their own stress tests without the involvement of regulators.

“We would not support policy recommendations that direct managers to use specific tools. Prescribing tools encourages herding in fund portfolios and trading, which could amplify market stress,” the Pennsylvania-based fund company said.

“We do not agree that authorities should require stress tests and provide guidance on how they should be conducted.”

Vanguard’s stance is supported by the Securities Industry and Financial Markets Association, the New York-based trade body that represents hundreds of asset managers, banks and securities companies.

Sifma said it would be “premature” for authorities to consider stress testing mutual funds. “There is a conceptual problem with the very notion of stress testing the capital adequacy of a mutual fund, where the objectives, methods, and costs and benefits are wholly undefined and therefore immeasurable,” the organisation said.

The US Securities and Exchange Commission, which is also in the process of finalising rules aimed at improving levels of liquidity, said last year that there were big discrepancies in the approach asset managers take in monitoring their ability to respond to large withdrawals.

“Some funds employ liquidity risk management practices that are substantially less rigorous,” the US regulator said.

Concerns about liquidity have been fuelled by Third Avenue’s decision in 2015 to block withdrawals from its high-yield bond fund. The New York-based manager halted redemptions even though the bond fund had $200m in cash, representing more than 20 per cent of assets.

The suspension of withdrawals by seven commercial property funds following the UK’s vote to leave the EU in June has added pressure on regulators to act.

Joel Shapiro, associate professor of finance at the University of Oxford’s Saïd Business School, said the introduction of mandatory stress testing would help “improve confidence” in the industry. But he added that the proposals were likely to meet widespread opposition from asset managers.

“Stress tests are enormous data-collecting exercises for those involved. This is probably an expense that fund managers will not relish, given the rising costs in the industry,” he said.

The FSB has also suggested that consideration should be given to broader “system-wide” stress testing that would attempt to assess what would happen if there were simultaneous withdrawals from a large number of funds.

BlackRock and Vanguard are united in their opposition to this proposal. BlackRock noted that insurers, pensions, foundations, endowments, sovereign wealth funds and family offices are not required to report their activities to the FSB. Consequently any move to implement system-wide stress tests would be pointless, according to the New York-based company.

“System-wide stress testing, macro stress testing of all mutual funds, or stress testing of all funds managed by an asset manager, would be predicated upon faulty assumptions, insufficient data and a misunderstanding of fund structures and asset-owner behaviour.

“We caution that aggregated stress tests of this nature are at best meaningless and at worst could result in misguided policy actions that risk creating the problems that the FSB and other regulators are seeking to avoid,” it said.