NEW YORK Participants in the US$870bn US leveraged loan market have asked the US Securities and Exchange Commission (SEC) to revise parts of a liquidity proposal that could hurt mutual funds that provide financing to non-investment grade companies.
Firms including Credit Suisse Asset Management, BlackRock and OppenheimerFunds, and trade body The Loan Syndications and Trading Association (LSTA) asked the regulator in January to reconsider ordering mutual funds and exchange-traded funds (ETFs) to rank holdings according to the time it would take to sell the asset.
The firms said that classifying investments into six categories based on the number of days that it would take to convert assets into cash, as the SEC proposed, is challenging, especially for loans due to long settlement times.
The SECs proposal to put each instrument into one of six liquidity classifications assumes a degree of certainty and precision that simply does not exist, Bram Smith, the executive director at the LSTA, said in a letter to the regulator on Jan. 13.
The firms letters were among more than 60 responses submitted following the SECs request for comments on its September liquidity proposal.
Investors and the LSTA also asked that the SEC keep its definition of an illiquid asset, as a proposed change to take into account settlement times could negatively impact the market.
The SEC defines illiquid assets as those that may not be sold or disposed of in the ordinary course of business within seven calendar days. Funds should hold a maximum of 15% of these investments.
Protecting retail investors and retirement savers is a priority, the SEC said in its 2016 Examination Priorities in January. At the end of 2014, 53.2 million households owned mutual funds, SEC Chair Mary Jo White said in September.
Open-end funds, which are prevalent in 401K retirement plans and 529 plans for college savings, need to meet redemption requests in seven days, and long loan settlement times can cause a mismatch when they are trying to return investor money.
It took an average of 19.3 days to settle a loan trade in 2015, far longer than the seven days recommended by the LSTA, and more than six times longer than it takes to close a bond trade, which can be completed in three days.
The SEC said in the proposal that although firms say that their funds comply with the rule on illiquid investments, delayed loan settlement times can create a mismatch between receiving cash after an asset sale and shareholder redemptions.
Revising the definition of an illiquid asset is unnecessary and inconsistent, the LSTA said.
Loan funds were able to meet redemptions in previous periods of stress, including July 2007 to December 2008, when there was more than US$15bn of outflows, the LSTA said.
OTHER FACTORS
The SEC criticized delayed loan settlement times in Septembers proposal, which applies to all open-ended funds and ETFs, and expressed concerns about whether funds could meet investors redemption requests in times of volatility.
Instead of the six liquidity categories, the LSTA is suggesting that the regulator allow funds to determine their liquidity needs based on factors such as the redemption characteristics of its investors, the liquidity of its portfolio and the availability of alternative sources of liquidity.
The group, whose goal it said in its letter is to transform syndicated loan settlement within the next three years to make it adhere to standards in other asset classes, said loan funds can hold cash positions, invest in securities that can settle in three days and hold a line of credit to ensure access to liquidity in order to meet redemptions.
A settlement mismatch can be covered by credit lines, though BlackRock noted in its letter that the credit lines are rarely used.
Credit lines for one or several funds run by the same manager range in size from US$50m to US$2.5bn, according to an LSTA survey of firms that oversee loan open-end funds and ETFs.
There was US$115.4bn in assets in US loan mutual funds and ETFs at the end of 2015, according to Thomson Reuters LPC data. The funds buy leveraged loans that back buyouts such as the purchase of Petco by CVC Capital Partners and the Canada Pension Plan Investment Board.
There have been outflows from loan mutual funds and ETFs during the last 26 consecutive weeks, including US$694m during the seven days ending January 20, according to Lipper data.
(Editing By Tessa Walsh and Michelle Sierra)
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