News & Insights

COVID-19 and the SFC’s response relating to authorised funds

In view of the volatility in local and international markets resulting from the COVID-19 outbreak, the Securities and Futures Commission (SFC) issued a circular (Circular) on 27 March 2020 to all managers and trustees/custodians of SFC-authorised funds reminding managers of their obligations to properly manage the liquidity of funds and ensure fair treatment of investors in light of current market conditions.

Recognising that swing pricing and anti-dilution levy are tools commonly used by managers to allocate the costs of redemption to redeeming investors to ensure remaining investors are treated fairly, the SFC also provided guidance on its expectations if managers are to apply a swing factor or anti-dilution levy beyond the maximum level that has been set out in their funds’ offering documents as a temporary measure.

The SFC has also stepped up its monitoring of funds and heightened its reporting requirements. Last but not least, the SFC introduced temporary relief measures relating to new fund applications and post-authorisation matters to alleviate the administrative burden which managers may face due to potential operational difficulties it may encounter.  

The Circular

Effective liquidity risk management and proper valuation of assets have been areas of SFC focus in recent years and the SFC has once again reminded managers of their obligations in the current market situation. In summary, managers are reminded to:

a.  closely monitor the dealing and trading of their funds, and in the case of exchange traded funds (ETFs), assess whether the continuous trading of their ETFs can be conducted in a fair and orderly manner and in the best interests of investors;
b.  keep investors informed at all times and immediately report to the SFC any untoward circumstances relating to their funds;
c.  ensure fair and accurate valuation of all assets of the funds;
d.  consider the need for any fair value adjustments and constantly review the fair value adjustment policies and procedures in light of the rapidly changing market conditions. The process and conduct of fair value adjustments should be done in consultation with the trustee/custodian;
e.  exercise due care, skill and diligence in managing liquidity of funds, in particular, ensuring that actions taken in meeting redemption obligations should not have any material adverse impact on the fund and its remaining investors; and
f.  use appropriate liquidity risk management tools after consultation with the trustee/custodian.

Trustees/custodians are also reminded of their duty to safeguard fund assets and provide independent oversight of the management of funds.

Given the exceptional market conditions, and the SFC’s growing emphasis on the importance of having sound liquidity risk management policies and procedures, it is important that managers proactively monitor and manage any potential liquidity risks that may arise for their funds. Managers should give the SFC early alerts of any material issues affecting their funds (including any intention to increase the swing factor or anti-dilution levy exceeding the one disclosed in the offering documents, any serious contemplation of suspension of dealings and significant drop in the value of the fund, e.g. a drop of 10% in a fund’s net asset value in a single day) and should consult the SFC if in doubt.

Managers should also take the opportunity to review the appropriateness and effectiveness of their liquidity risk management policies and make adjustments where necessary.

Swing pricing / anti-dilution levy

The SFC has updated its FAQ on Post Authorisation Compliance Issues (FAQ) to provide that its prior approval is not required if managers wish to apply a swing factor or anti-dilution levy beyond the maximum level disclosed in their funds offering documents as a temporary measure. However, managers are still expected to notify the SFC as soon as practicable if there is an intention to do so, and the following conditions will also need to be met:

a.  prior notice to existing and new investors (and if applicable, distributors of the fund) has been provided through the fund’s website and/or its usual communication channels. Following which, the adjusted swing factor can be applied immediately;
b.  the decision to revise the swing factor under the fund’s swing pricing mechanism must be duly justified (supported by proper records/documentation) and in the best interests of investors;
c.  the swing factor applied at any time must be representative of the prevailing market conditions and in the best interests of investors; and
d.  the revision and use of revised swing factor must be permitted under the fund’s constitutive documents, and must comply with the applicable laws and regulatory requirements.

The issued investors notice will need to be filed with the SFC.

The SFC may ask managers to justify on an ex-post basis the level of the swing factor applied and to provide documentary evidence.

The above will apply to anti-dilution levy in a similar manner.

Whilst the updated FAQ only provided guidance on what managers should do if they wish to adopt an adjusted swing factor (or anti-dilution levy), managers should closely monitor the liquidity of their funds and continually consider the appropriate liquidity risk management tools (including swing pricing, redemption gate and suspension of dealing) to be deployed to ensure fair treatment to all investors including redeeming investors and those remaining in the funds. It is recognised that it may be necessary to make temporary adjustments to the other liquidity risk management tools (such as redemption gate and suspension of dealing) to tailor for the current market conditions caused by the COVID-19 outbreak. If managers wish to deviate from the usual practice as described in the offering documents, managers should consult the SFC in advance and agree on a resolution on a case by case basis.

Heightened monitoring and reporting requirements

In response to the volatility and uncertainty in local and international financial markets due to the COVID-19 outbreak, the SFC has stepped up its monitoring efforts and lowered the thresholds for triggering the large redemption reporting to the SFC. Managers are now required to report to the SFC if (i) there has been a cumulative net redemption of 5% or more of the fund’s net asset value within a calendar week, and (ii) daily redemptions amount to 2% or more of the fund’s net asset value.

Temporary relief measures relating to new fund applications and post-authorisation matters

In view of the potential operational difficulties faced by managers during the COVID-19 outbreak, as a temporary relief, the SFC is prepared to accept soft copies of application related documents and post filing documentation in respect of new fund applications and post-authorisation matters.

The SFC will also accept un-signed copies of the relevant application forms, information checklists, confirmations and other relevant documents (Relevant Forms) accompanied by an email confirmation (from a person who meets the signatory requirements for the Relevant Forms) that the Relevant Forms and related documents are in order. The hard copies of the Relevant Forms will need to be submitted as soon as practicable afterwards.

For new fund applications, the SFC will be prepared to take up the new fund application if the application fee is the only outstanding matter. The application fee shall be paid, by cheque or by other means as agreed with the SFC, as soon as practicable after the SFC takes up the application.

For details, please refer to SFC’s FAQ on Application Procedures for Authorisation under the Revamped Process and the FAQ on Post Authorisation Compliance Issues.

The guidance on the SFC’s expectations for applying an adjusted swing factor or adjusted anti-dilution levy and the temporary relief measures are welcome initiatives during the current market environment caused by the COVID-19 outbreak.

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