On 11 May 2018, the FCA published a video in which it presents the findings following a multi-firm review of how asset management firms value so-called ‘hard to value’ assets. The video includes examples of good practice and areas for improvement. The FCA notes that valuation is a particular area where conflicts can arise. In particular, conflicts can arise if there is an incentive to inflate the marketed value of the asset above and beyond what it should be because remuneration policies, for example, might be tied to growth in assets under management.
In relation to what ‘good’ firm arrangements look like the FCA states:
- there needs to be genuine valuation expertise;
- such valuation expertise needs to be in the first line of defence, among the portfolio managers;
- valuation expertise also needs to be in the second line of defence for systems and controls ensuring that there is sufficient expertise to independently challenge the portfolio managers;
- the FCA wants to see robust evidence of independent challenge from the second line of defence in the day to day operations of firms as they are making valuation assessments;
- in some cases where a materiality threshold is breached for example, it may be appropriate to bring in additional independence through an external third party; and
- IOSCO has useful guidance on this (Principles for the Valuation of Collective Investment Schemes, final report, May 2013 (here)).
At the end of the video the FCA briefly mentions three things that firms should do:
- ensure that there is expertise in both the first and second line of defence (see above);
- ensure that there is independence throughout the valuation process. Valuations from portfolio managers are being effectively challenged on an ongoing basis through the firm’s valuation committee and through an external third party where necessary; and
- firms adhering to their valuation policies in a meaningful way every day and that they are able to evidence that when the FCA asks them to provide it.