New FCA boss Andrew Bailey warns City asset managers on transparency

Andrew Bailey, the next head of Britain's financial watchdog, has warned the biggest investment firms to be upfront about their exposure to risky and illiquid assets, particularly in the wake of recent turmoil on global markets.

Mr Bailey, who currently leads the Prudential Regulation Authority, said that with large financial firms managing more and more money for investors following the financial crisis, they have a responsibility to be clear about the type of assets on their books.

He pointed to the recent closure of Third Avenue Focused Credit Fund, an $800m vehicle that blew up after heavy losses on junk bonds, as a good example of a high-risk fund that was transparent about the dangers involved.

He said the fund's purpose and credit rating reflected its risk "and it wasn’t therefore in the form of a AAA label, which [would have] obscured the reality. The failure of this fund has not made major ripples all on its own".

The massive increase in balance sheet size pre-crisis accompanied what came to be known as the “search for yield”, which could be re-named the “search for risk which turns out to be unsustainable”.

Andrew Bailey, chief executive of the PRA

“Why? I would argue because there was no obvious lack of clarity around the assets, and this is a reminder against the re-appearance of opaque instruments and complex tranching,” he told a financial services conference in Dublin.

With some corners of emerging markets seizing up as investors rush to withdraw their money, some funds – such as Third Avenue’s junk corporate bond vehicle – have struggled to unlock assets fast enough to keep up with the outflows.

There have also been concerns that exchange-traded funds that track high-yield bonds have become far more liquid than the underlying assets, leaving investors with mismatched prices.

Mr Bailey, who was named the surprise successor to Martin Wheatley at the Financial Conduct Authority this week, said the ongoing overhaul of bank bail-in rules and the forthcoming ring fence for retail operations also encouraged lenders to be more transparent about their assets.

However, the reforms to prevent a repeat of the 2008 financial crisis are "still in progress and thus for us very much a matter of debate", he said

“Being inside the ring fence does not I should emphasise protect against all risk; indeed, the crisis saw the failure of a number of banks that were predominantly of the same nature as a ring-fenced bank will be,” he said.

“But it does keep the balance sheet on which most customer deposits will appear in the large UK banks in a more simple state, and that should be conducive to effective governance and supervision without being burdened with great complexity, and also facilitate recovery and resolution actions should they be necessary.”

He added that the bail-in rules, which require banks to decide a clear pecking order for creditors if it were to implode, would be “a key to unlocking the answer to the too big to fail problem”.