Bank of England takes fire at open-ended investment funds

The Bank of England may expand its oversight to include assessing the financial risks posed by funds. 

Bank of England governor Mark Carney has called for closer scrutiny of open-ended investment funds.

Talking in Tokyo, the governor raised concerns about the risk posed by investment funds holding a high proportion of illiquid assets in their portfolio.

This creates liquidity issues if investors attempt to redeem their holdings faster than the fund can sell its underlying assets.

Carney said: "Over half of investment funds have a structural mismatch between the frequency with which they offer redemptions and the time it would take them to liquidate their assets.

"Under stress they may need to fire sell assets, magnifying market adjustments and triggering further redemptions, a vicious feedback loop that can ultimately disrupt market functioning."

The comments come in the wake of Woodford Equity Income suspending trading. While Carney did not specifically mention Neil Woodford or his funds, the decision to suspend his income fund came as a result of the liquidity problems Carney identified. 

The Woodford Equity Income fund held around 10% in unlisted or unquoted businesses, but for a UK equity income fund this is a high amount and indeed proved too big a position to unwind without suspending the fund.

A wave of redemptions meant that Woodford had to sell his more liquid holdings to return money to return to investors. The fund suspended trading to try and sell some of its unlisted equity holdings to cover these redemptions. 

The problem of illiquid assets being held in open-ended funds had been raised before following a wave of property fund suspension after the 2016 Brexit vote.

Carney raised his concern that similar issues could be seen elsewhere.

"We have recently seen situations in the UK within some niche managers and smaller markets, such as open-ended property funds investing in commercial real estate. The complications would be much greater if a major asset class like EME [emerging market economy] debt were to freeze up."

The governor said that the Bank of England may expand its oversight to include assessing the financial risks posed by non-banks such as investment funds. He said: "System-wide stress simulations are currently being developed, including at the Bank of England, to assess these risks."

Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.