NEW YORK, Feb 5 (Reuters) - Investors in the US leveraged loan market are seeking to cut the time it takes to complete a trade as regulators warn that funds may not be able to meet redemptions during volatility.
Bain Capital affiliate Sankaty Advisors, 3i Group and Oaktree Capital Management were among the approximately 40 investment firms and banks that participated in a meeting January 27 with Virtus Partners, a fixed-income services provider that runs Virtus Trade Settlement, to discuss how to speed up the loan settlement process that takes six times longer than other asset classes.
In a September proposal to improve mutual fund liquidity risk management, the US Securities and Exchange Commission (SEC) criticized long settlement times in the leveraged loan market. The regulator said firms that hold securities with longer settlement periods "raised concerns" about a fund's ability to meet redemptions.
"If the market doesn't find and adopt solutions in short order, we're going to go the principal's office real soon and we won't like detention," Jason Rosiak, head of portfolio management at Newport Beach, California Pacific Asset Management, said about the loan market working together to shorten settlement times.
The SEC said in its 2016 Examination Priorities released last month that protecting retail investors and retirement savers is a priority.
Open-end funds, which are prevalent in 401K retirement plans and 529 plans for college savings, need to meet redemption requests in seven days and long loan settlement times can cause a mismatch when funds try to return investor money. At the end of 2014, 53.2m households owned mutual funds, SEC Chair Mary Jo White said in September.
It took, on average, 19.3 days to settle a loan trade in 2015, according to Markit data. The loan trade group the Loan Syndications and Trading Association (LSTA) recommend loan trades close in seven days. It takes three days to complete a bond trade.
"Loan settlement times are a problem because [mutual funds] need to meet redemptions within seven days," Stephen Tu, a senior analyst at Moody's Investors Service, said. "If you try to sell a loan and the average settlement times are still 20 plus days, and could be significantly longer, that goes against the basic function of what [these funds] do because you can't get cash from the proceeds of the sale of a loan to meet redemptions."
The SEC proposal would require the classification of the liquidity of the assets invested in by mutual funds and exchange-traded funds (ETFs), ranking holdings according to the time it would take to sell the asset.
Credit Suisse Asset Management, BlackRock and the LSTA were among firms that wrote to the SEC last month asking it to revise parts of the proposal, including the liquidity ranking, which they say could hurt the funds.
"There is pushback [from the market] against the core definition of the liquidity measurement, assigning days of liquidity to every asset," said Neal Epstein, senior credit officer at Moody's in New York. The response has been "uniformly negative so [the SEC] is going to have to revisit."
In a meeting at the Kimberly Hotel in New York last month, representatives, both in person and on the phone, from firms and banks that also included UBS, Angelo, Gordon & Co, MJX Asset Management, Centerbridge, Pacific Asset Management and BlackRock, discussed the issues surrounding long settlement times, investors said.
Spokespeople for the firms either declined to comment or didn't return telephone calls seeking comment.
Virtus may set up a smaller subgroup of investors and banks to continue to work together to address settlement issues, said Robert Tomicic, Virtus co-founder.
Participants discussed some specific back-office issues that need to be addressed, as well as the cost to upgrade technology needed in order to be able to improve the process, investors said.
"Investors realize there may not be one silver bullet out there and they have to choose a few solutions," Rosiak said. (Editing By Michelle Sierra and Chris Mangham)