SEC's Division of Investment Management Cautions Advisers and Directors of Funds Trading in Fixed Income Markets (with Lofchie Comment)

The SEC's Division of Investment Management ("IM") issued a Guidance Update regarding risk management and disclosure practices by fixed income mutual funds and exchange traded funds ("ETFs"), which the Division described as being issued in response to "increased volatility" in the fixed income markets. Among the steps which the Division of Investment Management recommended that fund advisers consider are the following:

• Assess and stress test liquidity, which the Guidance strongly implies may be required by Section 22(e) of the Investment Company Act
• More general stress tests / scenario analyses
• Risk management evaluations
• Greater communication between advisers and fund boards

Lofchie Comment: Although the SEC staff's publication describes itself as providing "suggest[ions]" as to risk management steps that "advisers may want to consider providing boards," both the advisers and board members should consider whether they may face potential liability in failing at least to consider the suggestions, even if ultimately they determine that implementation is not appropriate in a particular case. In this regard, board members should be mindful that the SEC has already established the precedent of pursuing enforcement actions against directors on the board of a registered investment company where the SEC believes that the board members have not established sufficiently vigorous valuation procedures. See, e.g., Former Mutual Fund Directors Agree to Settle Claims That They Failed to Properly Oversee Asset Valuation (with Lofchie Comment).

See:IM Guidance Update.