Asset Management and Financial Stability: Office of Financial Research Publishes Report on “Asset Management and Financial Stability”

Sullivan & Cromwell LLP - October 3, 2013
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On September 30, 2013, the U.S. Department of the Treasury’s Office of Financial Research (OFR) delivered a report to the Financial Stability Oversight Council (FSOC) exploring ways that activities in the asset management industry might create, amplify or transmit stress through the financial system. The report, entitled “Asset Management and Financial Stability,” was prepared at the request of FSOC in order to better inform its analysis of whether to consider asset management firms for designation, under Section 113 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, as systemically important nonbank financial companies subject to enhanced prudential standards and supervision by the Board of Governors of the Federal Reserve System (“Federal Reserve”).

The OFR report does not expressly address whether asset managers will or should be designated as systemically important nonbank financial companies, but rather identifies certain factors that it suggests make the asset management industry vulnerable to financial shocks, including:

  • “reaching for yield” and “herding behaviors”;
  • redemption risk in collective investment vehicles;
  • leverage; and
  • firms as sources of risk.

Notably, the OFR acknowledges that significant gaps in data about the asset management industry (including involvement in repurchase transactions and the reinvestment of cash collateral from securities lending) limit the ability to evaluate potential vulnerabilities and the implications of those vulnerabilities for U.S. financial stability. The report specifically states that it does not address in detail the activities and risks posed by hedge funds and private equity funds, but notes that the OFR intends to conduct additional analysis regarding hedge funds and private equity funds as the OFR continues its review of data these private fund advisors have begun to submit to the SEC on Form PF. The OFR intends to continue working with FSOC and its member agencies to further examine and fill any data gaps. The report does not focus on the risks posed by money market funds, which were the subject of a November 2012 FSOC analysis.

Immediately following the issuance of the OFR report, the SEC issued a release soliciting public feedback on the report and indicating it will be accepting comments through November 1, 2013.