SEC Reporting Rules: Fund Managers’ Recon Challenge


The US Securities and Exchange Commission uses the word modernization when speaking of its new reporting rules for registered investment fund advisers, but that’s not how asset managers see things.

They dread the approaching tsunami, according to panelists and attendees at a recent TSAM North America fund management event held in New York. Fund managers will not only have to aggregate hoards of data but also reconcile any discrepancies quickly. Then, they will fill dozens of data fields and format the information to submit to the SEC within thirty days after month’s end. Good wordsmiths will also be required to explain some of the complex risk calculations.

The overarching goal of the new disclosure requirements is to give regulatory agency more useful data in a structured XML format, so it can better analyze market, credit, liquidity and other risks across specific types of funds and industry-wide. The rules take effect on June 1, 2018 for funds with over $1 billion in assets under management with the first reports due on July 30. Those with a lower value of assets can wait until a year later.

“The amount of data combined with the short timeframe will require far greater coordination between front, middle and back-office professionals who must track down all the information and do all the necessary calculations,” says Gary Swiman, president of Compass Advisors, a regulatory advisory firm and affiliate of accounting firm Grassi & Co in New York. “Fund managers who aren’t getting ready from now risk making plenty of errors come reporting time.”

Form N-PORT, which replaces Form N-Q, requires information on assets and liabilities, portfolio-level risk metrics, cash flow data. It also includes securities lending transactions and counterparties involved, as well as monthly returns and specific derivative contracts such as the characteristics, terms and conditions of each contract. There are additional metrics of duration and spread duration, most relevant to bond investments, designed to measure a fund’s sensitivity to changing market conditions such as changes in asset prices, interest rates or credit spreads. Information on liquidity pricing and fund flows would also be included as would total returns for each of the previous three months. By contrast, Form N-Q limited fund specific disclosure to a schedule of investments for the end of he reporting period. There was no data on porfolio level risk, securities lending deals or even derivatives,

The new Form N-CEN of census-type information, replacing form N-SAR, loads on several additional repoering topics —  data on whether borrowers defaulted on securities loans, the fee structure of the deals, and whether any service providers were added or terminated. Form N-CEN will be filed annually, starting about 18 months after the effective date of the new modernization rules.

Of the two forms, Form N-PORT is considered harder to fill out because of the timing involved and the more detailed information on risk metrics and derivative contracts. Although the SEC’s modernization program is entirely separate from its new liquidity management regime, the two are intertwined. Some of the questions on Form N-PORT also relate to how fund managers categorize their investments by level of liquidity — that is, how quickly they can be sold. “Those are the questions that will generate the most internal debate because they are the most subjective and require constant portfolio monitoring,” says Swiman.

Almost all information filed on Form N-PORT will be kept confidential for the first six months after June 1, 2018. After that time, the N-PORT report for every third month will be made publicly available sixty days after the end of the fund’s fiscal quarter. Such a cycle has the effect that Form N-PORT will be made public only one one of three months after a lag that approximates the lag for existing public financial reports for registered investment companies. All information will be made public with the exception of information identifiable to a particular fund or adviser such as some data on liquidity. Any explanatory notes will also be made public only if related to information that is made public.

All About Location

An estimated 80 percent of the data on Form N-PORT is already used in financial reporting but the remaining twenty percent will still be hard to find in time, if at all. “Located in trade management systems, fund accounting systems, securities lending and finance systems, collateral management systems and security masterfile systems, the data will need to be scrubbed because there could be discrepancies or even errors.” says Michael Megaw, managing director of fund administrator SS&C GlobeOp in New York.

Asset and liability data as well as securities lending data will likely be housed by third party-fund dministrators, although not always with the same breath of attributes required for filing. Fund managers will likely have performance returns and risk analytics in house on performance attribution platforms. Cash flow will be provided by internal or external transfer agents.

Fund managers must ensure that the information they are providing the SEC is the same on Form N-PORT and N-CEN as it is presented in marketing material, offering documents and any other filings suh as Form ADV, Form PF, CPO-PQR or AIFMD Annex IV. Regulators could conduct additional audits or take enforcement action, particularly find any discrepancies particularly as they affect the strategy of the fund, the value of its assets under management or its performance.

Even fund managers with strong data governance procedures could find still themselves in hot water if they are not aware of SEC’s terminology. “Fund managers need to carefully read the glossary definitions offered by the SEC,” says Jeanette Turner, managing director of Advise Technologies, a New York based global regulatory software provider. Case in point: the SEC’s definition of the buyer and seller of a repurchase agreement is consistent with that used for Form PF and Form N-MFP but is the reverse of the industry’s definition. Form PF is the reporting form used by hedge fund managers while Form N-MFP is used by money market fund managers.

What happens if the SEC doesn’t clarify a particular term? The fund manager can either come up with its own explanation or review another regulation where the SEC may have provided clarity such as in Form PF. Likewise, they could decide to do the same when it comes to calculating portfolio-level risk where the SEC does allow room for interpretation. Should that be the case, the fund manager has plenty of opportunity to explain its reasoning in Section E of Form N-PORT where narrative is allowed.

Attendees at the TSAM event tell FinOps that such addendums can range anywhere from a few pages to several dozen pages. However, more isn’t necessarily better. “Fund managers will have to consider the appropriate level of detail about their methodologies and assumptions in Part E of N-PORT, balancing the need to explain and clarify with the desire to keep proprietary information about invesment processes private,” says Megan Johnson, a partner with the law firm of Dechert in Washington. The information can raise a red flag to the SEC or investors when it becomes public.”

Outsourcing the reporting process may sound like a good option, but it isn’t a panacea. Fund administrators, who are the most likely candidates for the work, may not be equipt to respond to all of the questions on Form N-PORT, particularly the ones related to risk metrics. Even if they are able to complete all of the questions, the fund manager will still retain legal liability for any mistakes. Therefore, it must stay in constant contact with its fund administrator to make certain it interprets any risk metric questions the same way the fund manager wants.

“Fund managers shouldn’t accept the fund administrator’s blanket methodologies and interpretations used across all funds,” cautions Turner. “Instead, they should verify that the administrator is using the approach the fund wants.” In addition, the fund manager needs to reconcile any values provided by the fund administrator using a back-office accounting book of record (ABOR) to its own investment book of record (IBOR). Why? The ABOR may be potentially out of sync.

Fund managers who have already filed Form PF with the SEC will likely be the most prepared for the SEC’s modernization program. Required for private fund managers, Form PF will contain some of the same data as Form N-PORT. Hence, fund managers may have already set up a a system of rules and procedures for data aggregation, normalization and reporting.

All About Process

For those who find Form N-PORT daunting, Turner recommends creating a new swat team of portfolio management, trading desk and risk management executives reporting to the compliance manager who is the ultimate sponsor of the filing project. Each of the executives would own a particular workload based on a set of questions or product.

Those same executives could end up signing off on some or all of the questions prior to filing with the SEC. Ideally, the sign off should be from more than one person. “Unlike the process with Form N-Q and Form N-CSR, Form N-PORT does not require certification,” says Johnson. “However, fund manages may look to disclosure controls and procesures established to satisfy Sarbanes-Oxley requirements when developing processes and procedures to address Form N-PORT,” say Johnson. The Sarbanes-Oxley Act of 2012 sets new expanded requirements for all US company boards and manaemnet to certify the accuracy of financial information.

Fund managers, advises Turner, should complete a mock reporting session by April 2018 to have sufficient time to iron out any kinks in the reporting process. The SEC has promised  a test facility before June 2018, but any verification will only be geared to catching any blank fiels or blatantly incorrect data formats, not whether the content itself is accurate..

“Early in the decision-making process fund managers will need to determine whether they will rely on handling the reporting work internally or rely on service providers,” says Megaw. “If the firm is going to license software, it will have to ensure that the platform has validation checks to catch any data errors, discrepancies or other red flags before filing. With such a short deadline and so much information required, it will not be possible to do the work manually.”

Likewise, fund managers need to document the reasoning behind any answers including the source of the data, the assumptions made and any SEC guidance used. Firms have turnover and new employees can be trained far more quickly using a playbook. The SEC also expects that the fund manager can easily defend any information provided with an audit trail.

The final step: “Fund managers will need to consider processes and procedures to monitor information that is being filed on Form N-PORT and to escalate and respond to follow-up questions from the SEC or the public,” says Johnson. Those questions could involve a change in value of assets or performance. In other words, the fund manager who can not only do the math but explain the steps involved will have the easiest time.

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