Stress test measures are also on the way for the asset management industry. After the recommendations issued at the beginning of the year by the Financial Stability Board on the liquidity of mutual funds, the use of financial leverage, securities lending and operational risks of investment management, asset management companies are already working to study and implement all the procedures which will allow them to demonstrate the ability to cope with possible financial market shocks and, above all, to manage liquidity while minimizing the risk of causing systemic financial crises. Crucial will therefore be the definition of new risk management approaches and the potential of management companies to carry out a lobbying activity to have a say on how the recommendations of the Financial Stability Board will be implemented by the competent Authorities.
These are the topics debated on the occasion of the conference organized by CACEIS, asset servicing of the Crédit AGricole Group, in partnership with Morningstar Italy, a leading company in independent research on investment instruments, whose proceedings were opened by Giorgio Solcia, Managing Director of CACEIS Bank, Italy Branch.
Lorenzo Macchia, Senior Counsel of the Zitiello Associati law firm, underlined how "the recommendations of the Financial Stability Board push in the direction of strengthening the internal measures of transparency and disclosure applicable to the funds, specifying that the information should be provided in writing and presented in in such a way as to be understandable to the investor, helping the latter to choose between different types of funds especially on the basis of the tools used to manage liquidity risk, such as for example the existence of liquidity constraints and the appropriate and diversified composition of the wallet. However, one of the most interesting points is that national authorities are encouraged to consider the use of stress tests to assess the ability of funds to meet redemptions in particularly negative market situations”.
On the occasion of the conference, Morningstar instead presented the new proprietary risk assessment model, based on 36 risk factors, showing the results deriving from the application of this model to some recent events that have had clear repercussions on the financial markets, from the vote on Brexit in the US presidential election last November. Finally, the results of the analysis on the Italian small cap market were presented, which has returned to the fore thanks to the launch of the new PIRs.
Francesco Paganelli, Manager Research Analyst of Morningstar EMEA, underlined how the new model "considers a series of proprietary data, such as the Economic moat (i.e. the competitive advantage of a company), the financial health, its popularity in the portfolios of funds (ownership popularity), the presence in funds with a high risk profile (ownership risk) and the valuations in relation to the quantitative estimates of fair value elaborated by Morningstar. In addition, the analysis takes into account sector, geographical and currency exposure. With regard to the Italian small cap market, the model's estimates confirm a slight overvaluation of the FTSE Italia MidCap index, in line with the evidence from other traditional metrics, such as the Price/Earnings multiple. However, the valuations of Italian small and mid-cap stocks are more or less in line with other indices of developed markets and therefore the signal must be contextualized in the current global panorama of moderately expensive equity valuations above the long-term average”.
Management companies are therefore called upon to review the traditional approaches to management characterized by the separation between manager and risk manager. Enrica Cisana, Director Practice Financial Service of PwC Advisory, stated how "the post-Lehman world and its sudden changes in the regime suggest to operators the need to adopt risk measurement techniques that promptly reflect the sudden changes in the scenario and, above all, to integrate risk management into the investment process. In this new context, stress tests and the assessment of the impact on the risk and return profile of the portfolio are not just an extra step for the risk manager, but a further input in the hands of the manager".
Etica Sgr was one of the first companies to take the first steps to integrate stress measures into risk management systems. Paolo Capelli, Head of Risk Management of the company, declared how “these metrics have been used in dealing with some recent market contexts, such as Black Monday in China in 2015 and Brexit in 2016. In particular, Etica Sgr conducts both “standard” ” (e.g. simulations of significant losses on the stock markets), and ad hoc (stress on country risk factors or in particular market scenarios). Furthermore, the management normally takes into consideration the Component VaR by security, depending on the possibility of volatility jumps, calculating the overall VaR using a proprietary model. In the event of feared shock events (e.g. Brexit), the manager rebalances the portfolio, also on the basis of estimated losses, in order to reduce the overall risk of the funds".
The road has now been traced and asset management companies will have to make sure that their funds are stress-tested as soon as possible, also in order not to lose a competitive advantage over subscribers. Eric Derobert, Group Head of Communications & Public Affairs of CACEIS, at the end of the conference, declared how "it is important today for management companies to carry out a lobbying activity which allows them to influence the way in which the recommendations of the Financial Stability Board will be implemented by the competent Authorities. In particular, IOSCO will have to transpose the measures relating to liquidity by the end of 2017, while those relating to the use of financial leverage by the end of 2018. CACEIS, on a global level, has always conducted a lobbying activity with the authorities European regulations in order to act as a spokesperson for the interests and needs of client asset management companies. This is also thanks to the support of the local offices of CACEIS, including CACEIS Italia, which are able to collect these needs at a local level and then transfer them centrally in the context of tables that CACEIS periodically organizes to take stock of the evolutions regulations in place".
