What to Expect When Gearing Up for 18f-4

The impending SEC Rule 18f-4 that comes into effect August 2022, will change the regulatory framework for financial institutions that engage in derivatives transactions. US-based registered investment companies, including mutual funds, ETFs, closed-end funds and others are gearing up for the reporting requirements that involve complex calculations and modeling techniques. Getting a handle on the data, analytics, risks and determining a framework for stress testing can be a distraction at best and a nightmare at worst for those responsible for 18f-4 reporting. If you are still determining how to prepare for 18f-4, rest assured you’re not alone. The questions below will provide guidance to help get ready.

Key Considerations for 18f-4

1. Have you identified how your firm will manage the data elements required for 18f-4?
2. Have you determined source systems or data augmentation steps to define in-scope hedges, tagging derivative instruments appropriately?
3. Do you have a system and process to accurately aggregate asset class-specific exposures prescribed by the rule? 
   1. Does your system and process take into account aggregating in-scope hedging rules?
4. Have you determined which risk model most accurately reflects your material portfolio risk? 
5. What is your procedure to manage VaR breaches? 
   1. Do you have the tools to analyze breaches and respond accordingly? 
      1. Do you have the necessary data to comply with the model governance requirements around backtesting?
   2. Is there a process in place for internal board reporting?
6. Does your system provide the flexibility to compare methodologies (e.g., Monte Carlo or Historical)
   1. Have you performed analyses around which model is more appropriate—relative or absolute?
      1. Does utilizing a reference portfolio or benchmark impact portfolio management?
      2. How are you determining which one to use?
7. Do you have a stress testing framework in place that covers “Extreme but plausible Scenarios”?
8. Outside of the required analytics, have you identified other material risk measures that are relevant in the fund?

Best Practice

Best practice dictates a robust, flexible and transparent process enabled with a solution that will ease the burden and ensure efficiencies in complying with 18f-4. Leveraging a solution that is highly configurable and can seamlessly integrate with external platforms can provide an edge in complying with the Rule, while making a sound investment in your firm’s risk management practice.

And finally, start early. These and other questions require your organization to select your analytics solution, determine your N-PORT submission process and define your frameworks and processes. You should run scenarios and test before the deadline, so you aren’t caught off guard.

For more information, view a demo of the SS&C Algorithmics 18f-4 Risk Analytics Service or contact us today.