WASHINGTON U.S. regulators are considering tightening regulation of asset management firms that oversee trillions of dollars, according to a new report by the Office of Financial Research released Monday.
The Financial Stability Oversight Council requested in April 2012 a report from the OFR, its data and research arm, to examine whether such firms that manage a total of $53 trillion in financial assets could "transmit or amplify" risk across the financial system, a senior agency official told reporters on a conference call.
The 34-page report looks at how asset management firms like BlackRock Inc., Vanguard Group Inc., State Street Global Advisors, and Fidelity Investments could create vulnerabilities in the financial system through their activities.
While the OFR's report did not explicitly examine how risky the top 20 asset management firms were, it showed how the industry is susceptible to various kinds of vulnerabilities that could ultimately lead to risk and spillover into the financial system.
Those vulnerabilities could include portfolio managers "reaching for yield" in a low-rate interest environment that is, seeking higher returns by buying up riskier assets than they normally would; or asset managers crowding into similar or even the same assets simultaneously, a practice referred to as "herding." Then there are the potential risks of redemption risk, leverage, and firms that are sources of risk.
All of these vulnerabilities could then be transmitted through the financial system either through exposure of creditors, counterparties and investors or as a result of fire sales.
The agency did note shortcomings in its data collection, which would have allowed it to make stronger conclusions.
"There's no question were those gaps to be filled by us or in coordination with other council agencies, we would be able to know a lot more and draw a stronger conclusion," said the senior OFR official.
Because the OFR is not a policymaking body, it did not provide the Council with any recommendations on how to proceed with how it may regulate asset management firms in the future.
"I can't predict what the council will do," said the senior OFR official. "This was designed to inform any consideration they may have about risks to the financial system that could originate, or be transmitted by, or be amplified by asset management activities."
The group of regulators, which includes 10 voting members, has the authority under the 2010 Dodd-Frank law to apply tougher regulations on firms that pose a significant risk to the financial system.
The OFR specified in the report that the council opted to "study the activities of asset management firms to better inform its analysis of whether and how to consider such firms for enhanced prudential standards and supervision."