QUICK READ: Junk Bond Funds & Proposed SEC Regulations

By: Roger Binggeli

Last week, the U.S. asset management community saw first-hand examples of why the SEC proposed regulations this past September which are meant to prevent a shareholder run on mutual funds during a future financial crisis. 

Two junk bond funds, one a ’40 Act open-end fund, and the other, a hedge fund, announced that they would stop honoring redemption requests in cash, and would soon close. Notably, the ’40 Act fund (the Third Avenue Focused Credit Fund) announced that in lieu of cash, it would provide redemptions to shareholders in the form of ownership interests in a trust that will be used to liquidate the fund in the coming weeks. Normally, SEC permission would be required in order for a fund to stop paying redemptions, however offering the trust ownership interests appears to have acted as a means to avoid this process. 

As the junk bond market slumps due to the drop in commodities prices, and the anticipated Fed rate hike, some high yield funds are struggling to raise the cash needed to honor daily redemptions, and it has been reported that some high yield asset managers have been seeking increased credit lines from their lenders in order to address this. 

While the SEC works to implement regulations that address future liquidity crunches, the high yield managers which prioritized credit quality allocation and liquidity, are likely to weather the current downturn in asset prices the best. 

This article was authored by Roger Binggeli, Senior Compliance Consultant.  For more information, please contact Roger at rbinggeli@impconsults.com or Jane Stabile at jmstabile@impconsults.com.  Roger can also be reached at 617-314-7415 x118.