Tackling the Challenges Faced by MEFMI Countries In The Process of Selecting, Managing And Monitoring External Fund Managers

In the current period of low returns, Central Banks are searching for yield through alternative, non-traditional investments. They are taking on additional risk in one or a combination of currency risk, liquidity risk, interest rate risk or credit risk. Currency risk involves investments in non-traditional currencies like the Australian and Canadian dollar. Liquidity risk means sacrificing some liquidity of reserves but doing so while applying the SAFE framework (Stability, Access, Feasibility and Efficiency) to analyse new non-traditional markets. Interest rate risk which is the risk of adverse mark to market revaluations due to sharp moves in short-term  interest rates points to investing longer term, to the  point past which yield changes have less impact than capital growth. Credit risk which is the risk of receiving, at maturity,  less than the face value of the investment through actual default or a change in the market’s assessment of default probability – buying corporate bonds or investing in emerging market debt.

MEFMI conducted a retreat for Heads of Reserves Management during 6 to 8 November 2013 in Windhoek, Namibia to demonstrate the challenges faced by MEFMI countries in the process of selecting, managing and monitoring external fund managers and custodians. The retreat targeted Heads of Reserves Management and/or Financial Markets department and/or divisions responsible for Foreign Exchange Reserves Management, Senior Managers sitting on the Investment Committee, and Central Bank legal counsel. The focus of the Retreat was on the Selection, Management, and Monitoring of External Fund Managers and Custodians.  It provided countries with the opportunity to learn from each other’s experiences while the resource persons provided a ‘best practice’ viewpoint. International and regional perspectives in dealing with the multifaceted issues that come with the engagement of an external fund manager and custodian were also shared and brought to the fore.

The main objective of the retreat was to gain an understanding of the process of selecting, managing and monitoring external fund managers and custodians as well as to bring to the fore the importance of the legal issues and implication of engaging external fund managers and custodians. The secondary objective of the retreat was to provide participants with a governance and operational framework for setting up and managing an external manager programme. The retreat was designed for central banks that have or are considering using external fund managers for fixed income portfolios. After the workshop participants are expected to view the use of external fund managers in the context of the institution’s overall strategic asset allocation, including issues relating to defining benchmarks, risk guidelines, and performance targets.

Key topics that were discussed in the seminar included;

i.      The rationale for using fund managers and custodians and their main roles;

ii.      Alternative sources of return in reserves portfolios;

iii.      Appropriate asset classes and benchmarks for fund managers;

iv.      Transition management;

v.      Post-selection monitoring techniques and knowing when to de-select a manager;

vi.      Securities lending; and

vii.      Legal aspects underlying custody of assets and external asset manager program.

The retreat was officially opened by the Deputy Governor of the Central Bank of Namibia Mr. Ebson Uanguta.  He thanked MEFMI for outstanding work in building capacity in the region and talked about the traditional motive for central banks to hold reserves. He went on to discuss the financial crisis and the effects it has had on countries in the region. Thereafter, he brought out very clearly the role played by the central bank reserves in shielding their domestic currencies during this period. He then expounded on the growth curve taken by central banks’ reserves in the past ten (10) years and the resultant importance of having those reserves managed professionally. He elucidated the importance played by external fund managers and custodians, highlighting the importance of selecting, managing and monitoring them to ensure management of central bank reserves within the confines stated in the risk budget.

The workshop was well resourced with six (6) gratis resource persons and three (3) observers (some of whom also made presentations).  The Resource persons were from a wide range of institutions; The World Bank, The BIS, BNY Mellon, Investec Asset Management and State Street Global Advisors. They brought a considerable high level of experience in the areas they presented on.

The workshop was attended by 13 representatives from nine member countries. Out of the 13 participants, four (4) were female representing 31%, while nine (9) were male, representing 69%.

The programme was designed to be theoretical with active participation from the participants to lend it a practical side based on their experiences on the selection, management and monitoring of external fund managers and custodians. The presentations were well received and this showed in the level of interactive responses during the retreat.