Money managers’ activities could threaten financial system: Treasury

Money managers could pose threats to the U.S. financial system when reaching for higher returns, herding into popular asset classes or amplifying price movements, the Treasury Department said last month.

Companies overseeing a combined $53 trillion in assets, led by fund giants BlackRock Inc. and The Vanguard Group Inc., can contribute to asset price increases and magnify volatility during sudden shocks, a report by the department said.

Gaps in data, particularly on investments managed for institutions, limited the study's ability to identify additional risk.

“A certain combination of fund- and firm-level activities within a large, complex firm, or engagement by a significant number of asset managers in riskier activities, could pose, amplify or transmit a threat to the financial system,” the Treasury Department's Office of Financial Research said in the report.

The study was conducted by the office to help the Financial Stability Oversight Council analyze whether asset managers should be considered systemically important and subject to Federal Reserve supervision.

“The council will review the study closely as it considers potential next steps relating to asset management activities and firms,” Treasury spokeswoman Suzanne Elio wrote in an e-mail.

COUNCIL AUTHORITY

The council is authorized under the Dodd-Frank financial regulatory law to identify companies that could pose a threat to stability. The Fed can impose on such firms tighter capital, debt and liquidity rules, and demand measures such as stress testing and wind-down plans.

The FSOC is led by Treasury Secretary Jacob J. Lew and includes Fed Chairman Ben S. Bernanke.

“We continue to believe that designation as systemically important financial institutions, or SIFIs, is not an appropriate regulatory tool for addressing risks, if any, that registered funds or their advisers might raise regarding financial stability,” Mike McNamee, a spokesman for the Investment Company Institute, wrote in an e-mailed statement.

The FSOC has designated three non-bank financial companies — American International Group Inc., General Electric Co.'s finance unit and Prudential Financial Inc. — as systemically important.

ILLIQUID INVESTMENTS

Exchange-traded funds “may transmit or amplify financial shocks originating elsewhere” by pooling assets into illiquid investments such as emerging-markets stocks or high-yield debt, the Office of Financial Research said.

“Herding into more-illiquid investments may have a greater potential to create adverse market impacts if financial shocks trigger a reversal of the herding behavior,” the report said.

Vanguard and BlackRock declined to comment, as the companies hadn't fully reviewed the report.

“I don't think the asset managers will like the study, because some parts of it read like the FSOC's analysis when they designated AIG and Prudential,” said Joseph Engelhard, a former Treasury Department official who is now senior vice president at Capital Alpha Partners LLC. Still, the Office of Financial Research didn't indicate that it had reached a conclusion on whether asset managers should be designated systemically important, he said.