Asset managers want better derivatives risk monitoring, says S&P

The survey of 319 firms in Europe found that only 2% of asset managers are comprehensively monitoring the discretionary use of alternative assets, due to the cost, operational burden and time involved.

The survey went on to reveal that two thirds of the firms are interested in a cost-effective risk monitoring framework that would combine a compliance tool, risk capability and data component to make their use of derivatives more transparent. “The strong message we got from our dialogue with the market is that the quest is on for the correct framework for risk monitoring,” said Mark Pearce, an associate director at S&P in London.

All sizes of firms expressed an interest in better monitoring capabilities. For large and medium-sized companies, the need was for specific components such as data mapping. But small enterprises wanted all of the components, as currently most of this work is done manually. For the purposes of the survey, a large enterprise was considered to have more than £5 billion in assets under management (AUM), a medium firm between £1-5 billion AUM, and a small firm less than £1 billion AUM.

Pearce explained that companies are under particular pressure from the need to fully convert their Undertakings for the Collective Investment of Transferable Securities (UCITS) I funds to UCITS III by the second quarter of next year, when they will have to clearly demonstrate their portfolios are within certain concentration and counterparty risk limits.

The new directive also allows firms to use derivatives instruments to increase returns, provided they can show their discretionary use is properly monitored. Prior to this, asset managers could only use derivatives to hedge risk in their portfolios.

Asset managers and pension funds are increasingly interested in alternative assets to secure higher returns, but “fund trustees… will need to be convinced their asset managers have in place the appropriate risk management strategy”, Pearce said.

S&P spoke to chief compliance officers, chief investment officers and chief operating officers for their survey. It is currently carrying out further research in Europe regarding the exact requirements of firms. It will then develop a product to match their needs, which it plans to launch next year.

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