BoE official warns suspending fund redemptions can be ‘double-edged sword’

During his speech, Financial resilience and economic earthquakes, at the University of Warwick yesterday, Bank of England (BoE) senior official Alex Brazier emphasised that suspending funds can be a “double-edged sword”.

Brazier added that the threat of imposing such measures imminently can “create an incentive to be at the front of the redemption queue”.

Brazier, a member of the bank’s Financial Policy Committee and executive director for financial stability strategy and risk, highlighted that equity funds that committed to blue-chip shares are able to cope better with calls from investors for their money back.

Despite not mentioned Neil Woodford or his products, the statement from the BoE official came following the suspension of the star trader’s flagship fund.

“Of course, redemptions can be suspended – funds can be gated – to limit the selling pressure. But such measures are a double-edged sword. They can allow time for an orderly re-structuring of a fund, avoiding unnecessary fire sale pressure, but the expectation that such measures could be imposed tomorrow can create an incentive to be at the front of the redemption queue today,” Brazier said.

He added that “any incentive” for investors to be at the front of the queue might be “detrimental” to the resilience of finance for the real economy. “The emerging evidence is that companies whose existing liabilities are subject to selling pressure from funds tend to cut back new issuance and – presumably to protect their cash flow position – cut both investment and employment,” he stated.

According to Brazier, it is striking that the more illiquid or difficult to trade the assets in a fund were, the more aggressively its investors withdraw their funds as prices of the assets fall.

He said: “When a fund holds assets traded almost instantly on exchange – like blue-chip equities – investors tend to sit on their hands.

“At the other end of the spectrum, investors in open-ended funds holding commercial real estate – which, on average, takes 298 days to sell – take out 0.6 per cent of their money for every 1 per cent fall in the value of their funds. Investors in corporate bond funds behave similarly.”

Brazier acknowledged that the Financial Conduct Authority is finalising rules for funds investing in illiquid assets to strengthen liquidity management, but stressed that this is a global issue that needs to be tackled.

“These are global issues. So macroprudential authorities across the world will need to review new global asset management rules,” the BoE director highlighted.

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