ESMA Guidelines On Liquidity Stress Testing

Author:Mr Cillian Bredin
Profession:Dillon Eustace

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Following on from a consultation process earlier this year, ESMA has published its final report on guidelines on liquidity stress testing in UCITS and AIFs (the "Guidelines") which set down minimum standards for liquidity stress testing ("LST") in EU domiciled UCITS and AIF funds.

The publication of the Guidelines follows an increased regulatory focus on liquidity on a domestic front also. The Central Bank of Ireland (the "Central Bank") last month issued a "Dear CEO" letter to all UCITS management companies and AIFMs ("Management Companies")1 noting that it expects the Board, relevant directors and designated persons of each Management Company to assess on an ongoing basis the liquidity position of each fund under management to ensure "that the liquidity of the investment portfolio remains in line with the respective fund's redemption policy, taking into account investors redemption demands". As part of its Brexit contingency arrangements, the Central Bank has also increased its monitoring of investment fund liquidity and redemption activity since January of this year.

We expect the Central Bank to notify ESMA of its intention to comply with the Guidelines in full.

Existing framework

Under the existing UCITS framework, UCITS management companies are required to conduct stress testing where appropriate in order to assess the liquidity risk of a UCITS under exceptional circumstances. The AIFMD framework is more onerous in that no appropriateness threshold is applied and AIFMs are required to "regularly conduct stress tests, under normal and exceptional liquidity conditions, to allow the AIFM to assess the liquidity risk of each AIF under management and monitor the liquidity risk of each AIF accordingly".

What is the aim of the Guidelines?

The Guidelines supplement the existing legislative provisions to set down a common framework for LST carried out on EU domiciled funds and are intended to increase the standard and consistency of liquidity stress testing by Management Companies and to promote convergence in the way in which national competent authorities supervise fund liquidity stress testing across the EU.

When do the Guidelines take effect?

Despite calls from industry for a longer transition period, the Guidelines will take effect from 30 September 2020.

Do all funds fall within the scope of the...

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