Asset managers are hugely underestimating the amount of capital they must hold to cover risk compared with watchdog expectations
The amount of money which asset managers are holding to cover potential risks is falling well below the financial watchdog's expectations, according to a new report from KPMG.
On average, asset managers in the UK are being told by the Financial Conduct Authority (FCA) to hold 82 per cent more capital than they have already set aside. For a mid-sized UK firm, this would equate to £31m.
Asset managers are expected to make up any shortfall between their own capital assessments and the FCA's and ensure they have the money to hand, even if this means cancelling a dividend or asking their parent company for a capital injection.
“Firms need to work fast to bridge the gap between the capital levels considered adequate by the internal team and the FCA, otherwise they could find themselves with a sudden and drastic hit to available capital,” said KPMG's asset management partner David Yim.
“Every pound held in capital is a pound that can't be invested in growth, digital or implementing regulation.”
Following EU reforms prompted by the financial crisis, asset managers must assess the risks they could potentially face and hold enough capital on their balance sheet to cover their backs should these risks come to fruition.
The FCA will then run its own assessment of what this sum should be for every firm – regularly for more systemically important firms, and less so for smaller ones.
In the majority of cases over the last four years, the FCA has told asset managers that their own estimates are far too low. The most systemically important firms were ordered to hold an average of £35.4m more than they had calculated. Slightly less important ones were told £64.5m, while the multitude of smaller firms were required to up their capital requirements by £64.5m.
Most of the underestimated risks were operational, such as mis-selling products, business disruption or fraud.
In one high-profile case earlier this year, Hargreaves Lansdown was told it needed to find an extra £50 to cover potential risks.