ASIC has emphasised the importance of responsible entities in the funds management sector maintaining adequate risk management systems following a proactive review.

The findings of ASIC’s review are contained in Report 298 Adequacy of risk management systems of responsible entities (REP 298)

ASIC has also indicated its intention to develop good practice guidance on risk management systems for responsible entities in 2013.

ASIC Commissioner, Greg Tanzer, said ‘Australian financial services (AFS) licensees, including responsible entities, are legally required to have adequate risk management systems in place. These systems are intended to mitigate exposure to relevant risks and as such, play a fundamental role in building investor confidence’.

In the responsible entities we reviewed, ASIC found that the sophistication of risk management systems varied greatly. While they generally had adequate risk management systems adapted to the nature, scale and complexity of their financial services businesses, we observed that improvements could be made, especially for those responsible entities that are not part of an Australian Prudential Regulation Authority (APRA)-regulated group.

Our review also identified new challenges and risks in the growing managed funds sector, as it consolidates and integrates.

‘It is important to have good business practices and strategies to manage current and emerging risks to effectively respond to the dynamic financial markets and industry consolidation. We encourage responsible entities to engage with us early on significant and complex merger and acquisition activity and the risks that may arise as a result’, Mr Tanzer said.

In addition, ASIC found that smaller responsible entities tend to face:

• key person risk where the loss of one or two people, either temporarily or permanently, may produce a major impact on the operations of the responsible entity and the performance of its funds; and

• the risk of overreliance on external compliance and risk management consultants without necessarily having the skills and resources to independently assess the quality of their services.

ASIC expects to consult on developing good practice guidance on risk management systems for responsible entities and may consider proposals such as:

• regular reviews of risk management systems and, in any event, reviews of these systems when market shocks occur;

• forward looking analysis of resource adequacy;

• succession planning and independent monitoring to address key person risk and the risk of overreliance on external compliance and risk management consultants; and

• quantitative or actuarial analysis for stress testing risks on an ‘if not, why not?’ basis.

‘Our review and commitment to developing good practice guidance, together with the new financial resource requirements for responsible entities that come into effect on 1 November 2012, will strengthen this sector and investor confidence in it’, Mr Tanzer said.

ASIC acknowledges the assistance of responsible entities that took part in our review.

Background

In 2011–12, ASIC completed a review aimed at assessing the adequacy and strategic and operational effectiveness of the risk management systems of selected responsible entities ranging in size and complexity, and how they specifically manage their financial, investment and liquidity risk.

The review was undertaken with a view to:

• determining the ability of these AFS licensees to comply with their licence conditions;

• considering whether risk management arrangements had changed in light of the global financial crisis or other external or internal factors; and

• encouraging better preparedness for market volatility in the future.

Download Report 298 Adequacy of risk management systems of responsible entities