Link broke 'spirit' of the rules: UK regulator
Hans van LeeuwenEurope correspondentJun 26, 2019 — 3.17am
ASX-listed financial services conglomerate Link Group breached the "spirit" of the rules in allowing star British stockpicker Neil Woodford to shift assets to the Guernsey stock exchange to avoid breaching liquidity rules, the boss of Britain's financial regulator said.Financial Conduct Authority (FCA) chief executive Andrew Bailey told a parliamentary committee on Tuesday (Wednesday AEST) that Link had been "sailing close to the wind" for up to a year and bore full responsibility for this act of "regulatory arbitrage".Link is under FCA investigation after Mr Woodford's flagship fund, for which Link's main British unit is the responsible administrator, on June 3 slammed the gate on investors wanting their money back.
The embattled fund had got to the point where it may have been unable to meet the slew of redemption requests. Link is the point of responsibility. I’m very clear on that ... they will be responsible," Mr Bailey said.But Mr Bailey rejected suggestions Link was in any way a bad apple. "We’ve got investigations going on but I don’t think it’s right to suggest, particularly at this stage, that they are worse than others," he told the MPs.
FCA will sit down with Link this week to discuss whether to reopen the gate when the 28-day freeze ends next Monday. But Mr Bailey told MPs it wouldn't necessarily be in investors' best interests to unlock the gate if it meant a firesale of assets in order to meet redemptions.The fund's poor performance had led to a growing exodus – and Mr Woodford was finding it increasingly difficult to fund these redemptions because a significant part of the portfolio was locked up in illiquid assets."They [Guernsey] were concerned it was, to coin a phrase, a regulatory arbitrage. Which it was."— Financial Conduct Authority CEO Andrew Bailey"What happened was that the unlisted proportion of the fund was biting more on them as the total fund size shrank. It’s pretty straightforward arithmetic really," Mr Bailey told the committee.Because investors are allowed to withdraw their money at any time, the rules set a 10 per cent cap on illiquid assets. But the fund skirted these rules by shifting some illiquid assets to the Guernsey stock exchange, where they were notionally liquid but in reality were not traded.
"They had designated Guernsey quite a while ago," Mr Bailey said. "Once an exchange is designated, they don’t have to tell us what they’re doing, they don’t have to tell us that they’re listing things on that approved exchange."The Guernsey exchange suspended the listings during April, after media reports started questioning the arrangement."As we understand it, they [Guernsey] did that … because they were concerned it was, to coin a phrase, a regulatory arbitrage. Which it was," Mr Bailey said.He noted that the Guernsey arrangement was legal under the rules, "but I personally think is the wrong side of the spirit of it – at least they should have discussed it with us"."We had them under liquidity monitoring. They were using the rules to the full and they were not telling us they were doing that," he said.
Mr Woodford also parked some of the main fund's illiquid assets in another of his funds, trading them for supposedly liquid shares in that second fund.Mr Bailey suggested the rules may need to be revisited after Brexit, moving from the EU's "rules-based approach" to a "principles-based approach" that would probably have prompted the FCA to intervene earlier.He also said that suspension of redemptions was getting very negative press, whereas it should be seen as a tool to protect investors' interests.
The freeze began when Kent County Council tried to redeem its entire £250 million ($458 million) stake. Mr Bailey said a redemption of that size would have "tilted the make-up of the fund against the interests of the surviving investors"."So our view is that suspension is an important tool, it shouldn’t be somehow demonised. I realise it stops people getting at their funds when they may want them – although these are predominantly long-term investments, and it is in the collective interests of the investors, and that’s our obligation."Link has said it would not be commenting on the issue while under investigation.
But in a statement last week, it said Link Fund Solutions had "at all times acted in accordance with applicable rules and in the best interests of all investors of the fund, and it will continue to do so".Mr Bailey said any Woodford-inspired reforms should not produce a regime in which the regulator governs the stock-picking system.
Funds should be able to take risks, as long as there was an overall strategy to manage liquidity, he said.FCA chairman Charles Randell, who also attended the committee hearing, described the Woodford scenario as "the perfect storm"."What youv’e got here is a so-called high-conviction fund manager ... using the 10 per cent illiquid limit to the full. It follows that if you have a series of underperformance in the quoted [listed-stock] part of the portfolio ... you will quickly start hitting the 10 per cent buffers," he said."Is that that just a complete design flaw, in an environment in which investors are expecting daily redemption, or is there some other regime that would work better for investors who want that sort of investment mix?"It’s the daily redemption, coupled with illiquidity, coupled with 10 per cent that seems to present this perfect storm.
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