There have been various announcements by both UK and Continental European regulators which have impacted institutional investors either directly (where they are licensed in the UK or Europe) or indirectly (e.g. where that institution invests through a fund or account managed by a UK or European investment manager).
Where regulators have intervened, it has generally been to protect consumers and market integrity, and to mitigate impacts for the real economy.
These measures affect a number of different segments of the market and overlay existing requirements, some of which are triggered or become particularly relevant in times of market downturn or disruption (e.g. 10% depreciation notifications under MiFID client reporting rules).
Institutions who actively pursue or invest in strategies that utilise short selling have seen additional complexity with additional bans imposed by individual EU Member States (and although the FCA has stated that it does not as yet plan to introduce its own specific ban in respect of UK securities, it has supported action taken by other European regulators) and a lowering (by the European Securities and Markets Authority) of the private, regulatory reporting notification under the EU Short Selling Regulation to 0.1%.
Additionally, the UK banking authorities and regulators have acted to strongly encourage lenders (which we think includes bank and non-bank lenders) to take into account the current circumstances when assessing breaches of covenants in banking documents.
This could be relevant for institutions who actively invest in, and those who manage or advise on, credit investments.
We are also starting to see regulators both in the UK and at EU level recognising the pressures on firms (and themselves) and working to alleviate them. For example, there have been delays to the implementation of the first reporting wave under EU Securities Financing Transaction Regulation (note that there has not been a corresponding delay for UK and EU alternative investment fund managers who are due to start reporting in-scope securities financing transactions later this year) the next stages in the implementation of initial margin requirements under the European Market Infrastructure Regulation.
However, regulatory initiatives relating to the replacement of LIBOR and the EU prudential regime for investment firms have not been delayed.
In the pensions sector specifically, the Pensions Regulator (TPR) has also issued (and is regularly updating) guidance to trustees, both of DB and DC arrangements.
For defined benefit (DB) arrangements and their sponsoring employers, TPR has issued a suite of guidance statements covering a variety of issues. In relation to DB scheme investments, TPR observes that falls in investment markets and decreases in yields will have affected funding levels for many schemes, with the most significant effects for DB schemes with low levels of hedging and significant allocations to risk assets. There may also be opportunities emerging in certain markets or asset classes to enhance or preserve value. The pricing of risk transfer through buy-ins or buy-outs has also been affected by the turmoil in the bond markets and widening credit spreads.
TPR has also announced a series of regulatory easements, including around DB scheme funding and employer contribution arrangements, provisionally lasting until 30 June 2020.
In relation to downside investment considerations, TPR has stated that while DB schemes with longer-term investment horizons may be able to ‘trade through’ some of the current market volatility, trustees should consider with their advisers what actions should be taken in relation to significant risks (short, medium or long-term), or where the scheme’s sponsoring employer may be facing challenges, and keep this under constant review.
Matters for trustee review include: expected scheme cashflows and how these might vary (e.g. as a result of changing member activity); whether investment strategies and rebalancing arrangements are suitable in the current environment; assessing diversification (or concentration) of investment risks within portfolios; appropriateness of derivative and collateral management arrangements; and the timing and appropriateness of any planned or pre-agreed asset transitions. More mature schemes are likely to need to pay particular attention to these issues.
For defined contribution (DC) arrangements, TPR’s guidance aims to help trustees address some of the investment risks in the short, medium and potentially long-term for DC schemes and members.
Although many members of DC schemes will be able to endure short-term volatility in the market due to their long investment horizons, TPR is recommending that trustees take a number of steps to help address members’ concerns. Communicating what the current market volatility might mean for members retiring at different stages in the future, considering getting investment advice before switching funds (in order to avoid crystallising losses) and the dangers of scamming in the current environment are all points that trustees are encouraged to highlight to members.
Trustees should also be drawing their own attention to default investment strategies and the timings of fund switches or asset transitions, currently in place (and whether it would be appropriate to suspend or refine these arrangements), and the extent of any concentrations of risk or exposures to certain counterparties in their portfolios.
Trustees might also consider whether the scheme gives members facing immediate financial difficulties the full range of options to draw on their DC pots.