During the COVID-19 pandemic, extreme market volatility created enormous early challenges, as trading volumes increased dramatically, market valuations plunged and soared wildly, and investors behaved irrationally, according to a new research paper by PwC Luxembourg.
The research paper, Covid 19: A conversation with the Asset Service Provider Industry, looks into the key challenges, the lessons learned and the impact the crisis has had on the industry as a whole.
It suggested that the extreme market volatility led to a huge increase in exceptions in the daily process to be reviewed prior to release of daily production, often resulting in delayed production.
In the paper, CEOs explained that a variety of tools were deployed where funds came under liquidity pressure, although fund suspensions and liquidations were very few and extreme.
It was noted that swing pricing was triggered frequently, and the industry generally welcomed the Commission de Surveillance du Secteur Financier (CSSF) guidance introduced during March.
This did, however, add an obligation to ensure it was applied in the best interests of shareholders so further “checking” by third-party management companies (ManCos) and depositary banks.
Fair value pricing was more widely used, interfering with the more automated NAV processes and again a cause of delay in issuing a net asset value (NAV) calculation, the CEOs explained in the paper.
However, the CEOs observed that very few clients reported an increase in NAV errors despite the “perfect storm”.
Those that did are still assessing whether the root cause was market volatility or changes in the controls environment resulting from HBW.
In terms of underlying client liquidity, several CEOs reported clients under stress due to the underlying liquidity challenges of their clients, impacting margin calls and capital calls.
For foreign exchange (FX) hedging, the CEOs identified a significant increase in share class hedged trades due to volatile and large investor trades, which again added risk and the need for greater scrutiny which often resulted in delays.
Elsewhere in the paper, the CEOs looked at clients’ business impacts and affirmed that variations by type of fund also were reported, with equity funds clearly suffering but a boom in debt funds.
Alternative investment funds, particularly real asset funds, saw an increase in demand from investors, although some with exposure to certain assets (retail, hotels) clearly suffered, the CEOs said.
Additionally, there was widespread acknowledgement that private equity funds are not actively seeking to raise new capital in this very short term.
The CEOs commented: “We were extremely encouraged by the professional approach of the firms we interviewed in maintaining services for their clients, and the wide range of lessons they have learnt will further improve the effectiveness, efficiency and compliance of the Luxembourg ecosystem.”
Looking at the longer-term consequences of COVID-19 for the industry and society, PwC highlighted that in terms of impact on the asset management sector which the CEOs service, several themes emerged.
One of the themes, according to PwC, is that companies who have good Environmental, Social and Governance (ESG) characteristics will be targeted by asset managers, increasingly
under political direction and regulatory encouragement, and those asset managers with ESG capabilities will take market share.
In its conclusion, reflecting on the paper, PwC said: “All of the above plays to the strengths of the Luxembourg Asset Management sector and its Asset Service Provider community.”
PwC continued: “Notwithstanding the short term impact on asset manager assets under management fees driven revenues, and the liquidity/valuation challenges faced by some real estate funds, this fusion of a positive business outlook combined with a societal fairness philosophy reflects the hopes and beliefs of the CEOs we interviewed.”
“It is a fitting epitaph to their incredible efforts in maintaining services through the ultimate resilience test, that they emerge not just as great leaders, but that they reflect an intent to be part of a shift towards a fairer society.”
The participants for the paper included Mizuho Trust & Banking; HSBC Securities Services; Alter Domus; State Street; BNP Paribas Securities Services; CACEIS Bank; European Fund Administration S.A.; RBC Investor Services Bank S.A.; IQ-EQ; Nomura Bank; Intertrust; Vistra; Societe Generale Securities Services; Gen II Luxembourg Services; and PricewaterhouseCoopers, Socie?te? coope?rative.
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