CompaniesOct 6 2015

Ratings agency warns on fund capacity risks

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Ratings agency warns on fund capacity risks

Funds face growing capacity issues due to a combination of reduced overall market liquidity, growth of assets relative to supply, fund flow concentration and search for return reaching into less liquid asset classes.

This is according to a new report from Fitch Ratings, which warned capacity issues are becoming particularly pressing in the credit fund sector, where these trends have been most pronounced.

“In addition, we consider the safeguards and techniques of blockbuster credit funds, against fire sales during a sustained period of heavy outflows in illiquid markets, untried,” it read.

Despite this, the largest funds in capacity-constrained categories have generally maintained or improved three-year performance records relative to peers and benchmarks since 2012, supporting suggestions that most have not reached the point of maximum capacity, despite strong asset growth over the period.

At the end of August, Morningstar raised the alarm that capacity issues were beginning to impact Standard Life Investments’ Global Absolute Return Strategies fund, as it passed £40bn in assets under management.

Randal Goldsmith, a senior manager research analyst at the ratings agency, said the portfolio’s “stretched” capacity was having a particular effect on stock selection.

Fitch’s report pointed out the ability of active asset managers to exploit market inefficiencies reduces as fund size increases and beyond a certain limit a fund’s ability to outperform its peers and objectives may be constrained.

“We believe capacity management can be a source of investment edge, which may be better revealed in prolonged periods of outflows and market sell-off,” the ratings agency stated.

Back in March, the chief executive of Rathbone Unit Trust Management told FTAdviser that rules should be introduced to increase options for fund managers to cap the size of their funds without resorting to a formal suspension of inflows or punitive front-end charges.

Mike Webb said that he would like to see greater powers to move managers away from the ‘blunt tools’ they currently have at their disposal, expressing concern at the volume of assets migrating to larger fund houses.

peter.walker@ft.com