Proposals for Better Management of Non-Financial Risks within the European Fund Management Industry

Proposals for Better Management of Non-Financial Risks within the European Fund Management Industry - December 2012

Executive Summary

risks which could ultimately affect them seriously. In the same manner, the fund management industry as a whole must be encouraged to implement better modes of governance, monitoring and risk reduction rather than transferring the responsibility and costs of management or insurance of non-financial risks to a party that is not necessarily responsible for taking these risks in the first place. A detailed survey conducted by EDHEC- Risk Institute in 2011 which targeted the spectrum of players within the fund management industry showed that these stakeholders were aware of the limitations of an approach based solely on the responsibility of the depositary. Some 61% of respondents ranked transparency, information and governance as their top priority with regard to regulation. However, regulation on restitution, which lies at the heart of the regulatory agenda, was only ranked fourth behind increasing the responsibility of the industry and regulation on distribution. On the issue of responsibility, the majority of respondents (67%) deemed it necessary for the fund manager to have increased responsibility when it came to the management of non-financial risks, given its central and decision-making role when selecting assets, counterparties, implementing risk management measures, respecting investment constraints and restrictions, asset valuation, investor information, etc. However, this certainly does not absolve the depositary of its share of responsibility (65%). Meanwhile, the study showed that a large majority of respondents (75%) felt that a clearer responsibility regime should be established for depositaries, particularly with a more robust obligation of means.

EDHEC-Risk Institute’s proposals for a better grasp and management of non-financial risks as presented in this document take these findings and analyses into account. They fall into the twofold perspective of (i) increased accountability of all parties (including investors) when it comes to non-financial risks; and (ii) preventing the creation of a false sense of security due to regulatory promises which will, in the end, magnify the very risks they aim to mitigate. The EDHEC-Risk Institute proposals can be categorised into three themes. The first series of recommendations addresses the issues of transparency, information and governance . Not only is this theme of major concern to all stakeholders, but it is also the necessary condition for non-financial risks to be taken into account in investment decisions and, more broadly, in the fund management value chain. With regard to transparency, it is recommended that the information on non-financial risks required for the KIID be reinforced, thus rendering more effective the provision of information on the materiality of non-financial risks that is part of the CESR’s statement of good practice for the presentation of the KIID (CESR, 2010). To achieve this, we recommend that it be obligatory for the KIID to contain a clear description of the non-financial risks to which the fund is exposed and of the management of these risks and lastly an assessment of the residual non-financial risk borne by the investor. This assessment would be translated into a synthetic indicator, the layout and calculation of which would be identified by ESMA.

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An EDHEC-Risk Institute Publication