ASIC has issued a media release on 11 December 2019 announcing the lifting of its suspension of new listings of actively managed exchange traded funds with an internal market making function on Australian financial markets, such as ASX's AQUA platform and Chi-X.
Background
In July 2019, ASIC requested that exchange market operators not admit any managed funds which have internal market makers and do not disclose their portfolio holdings daily, while it undertook a review during the remainder of the calendar year (refer 19-195MR).
ASIC then carried out an enquiry, involving meetings with market operators, responsible entities and market making agents, into the manner in which these types of funds are operated.
The focus of the review was on whether there were market integrity risks inherent in certain market making models, especially where the models used certain non-public information as part of the pricing formulation used to determine the quotes which are to be made by the market maker being the responsible entity.
Key findings
ASIC has identified measures firms can implement to manage these risks. Subject to these controls, ASIC has requested that exchange market operators lift the pause on the admission of new managed funds with internal market making.
ASIC has stated that it intends to work with market operators and other stakeholders to ensure new funds being admitted for quotation use "compliant models". ASIC intends to provide stakeholders with more information about its findings and update Information Sheet 230 (INFO 230) (expected at the end of the first quarter of 2020) with guidelines on better practices for managing non-public information. ASIC wants market operators to implement the necessary changes as soon as possible.
ASIC's media release states that responsible entities and market making agents must ensure:
- the input for market-making quotes is a reference price or other information that is publicly available;
- internal compliance and supervision arrangements are adequate;
- information barriers are established to ensure decisions to buy or sell units are not made by "persons or systems" with knowledge of the current portfolio holdings; and
- there are adequate arrangements for identifying and responding to instances of substantial information asymmetry in the market, which may include cessation of market making activities or requesting a trading halt.
ASIC has considered the frameworks operating in other jurisdictions but its media release does not indicate that it has identified a preferred model in another jurisdiction.
What does it mean for you
While this is generally good news for the future of actively managed exchange traded funds with internal market making, ASIC has given is limited assurance to the market with the media release.
ASIC has not stipulated the actions which must be taken either by exchange market operators, responsible entities or market making agents, to address the market integrity risks. In the absence of that guidance, it is difficult to see how as a practical matter, a market operator will be able to proceed to approve an application for listing of a new product until the updated Information Sheet 230 is released at the end of the first quarter of 2020 and responsible entities and market making agents have had the opportunity to address ASIC's concerns. Responsible entities with existing actively managed exchange traded funds with internal market making also face challenges in implementing changes to their operating models, where:
- the nature of the changes required has not been spelt out; and
- on its face, changes which ASIC say are required to address policy concerns, will be difficult to implement in practice – for example, information barriers involving "persons and systems".
Finally, ASIC does not appear to consider in its media release the impact of the changes on the interests of fund members, a key element of the duties imposed on responsible entities under the Corporations Act 2001 (Cth).
Responsible entities will no doubt be very concerned to ensure that any changes made to the operation of these funds do not adversely impact members' interests.
Authors: Lisa Simmons, Jonathan Gordon, Corey McHattan, Con Tzerefos
