ESMA reports points out improvements needed in supervision of asset valuation

The European Securities and Markets Authority (ESMA), the EU's financial markets regulator and supervisor, has published  its report  on the Common Supervisory Action (CSA) with National Competent Authorities (NCAs) on the supervision of the asset valuation rules under the UCITS and AIFM Directives. 

The report focuses on the valuation of assets, which refers to the process of determining the fair value of various financial instruments and other assets.

The report begins by highlighting the importance of accurate asset valuation for the functioning of financial markets and the protection of investors. It emphasizes the need for consistent and reliable valuation practices across the European Union (EU).

The main objective of the report is to provide guidance and recommendations for improving the valuation of assets. It aims to address issues related to the complexity and diversity of assets, valuation methodologies, data availability, and the role of valuers.

To achieve this objective, the report identifies key challenges and risks in asset valuation and proposes several measures to enhance the valuation process. These measures include improving the quality and transparency of valuation inputs and assumptions, enhancing the independence and objectivity of valuers, and ensuring appropriate governance and oversight of the valuation process.

The report also highlights the importance of supervisory practices in relation to asset valuation and suggests ways in which regulators can effectively oversee the valuation activities of market participants. It emphasizes the need for cooperation and coordination among different authorities to promote consistent valuation practices across the EU.

Overall, the report provides a comprehensive overview of the challenges and best practices in asset valuation and offers recommendations for regulators, market participants, and valuers to enhance the accuracy and reliability of asset valuation in the EU financial markets. Finally it finds room for improvement in the following areas:

1. the appropriateness of valuation policies and procedures;
2. valuation under stressed market conditions;
3. independence of the valuation function and use of third-party valuers;
4. early detection mechanisms for valuation errors and compensation to investors.

In light of the current economic environment, it is important that NCAs' supervision addresses the deficiencies identified in the course of the CSA exercise and keeps paying close attention to potential valuation issues arising from less liquid assets, whose nature can amplify the structural liquidity mismatches of certain types of investment funds. This is particularly true for funds investing in Private Equity (PE) and Real Estate (RE) assets which might be more exposed to revaluation risks in light of the heavy reliance on long-term models and the illiquidity of their assets.

The CSA was launched in January 2022, with the aim of assessing, fostering and enforcing the compliance of supervised entities with the organisational requirements with respect to asset valuation.  The CSA also looked at their adherence to valuation principles and methodologies with a view to reflecting a true and fair value of their financial positions both under normal and stressed market conditions in line with the applicable rules.

Next steps

Building on the findings of the CSA exercise, ESMA will facilitate discussions among NCAs on the topic of asset valuation, particularly under stressed market conditions, in order to ensure that both market participants and NCAs are better prepared to address valuation-related challenges in future periods of stress. Moreover, ESMA welcomes that NCAs have planned to follow-up on the deficiencies identified in the course of the CSA and encourages the use of enforcement, where appropriate.

For more information on the topic or the Brussel's office please contact EU Public Affairs Manager Fausta Todhe: ftodhe@rics.org