AIFMD Delays Add to Anxieties for European Domiciled Hedge Funds

Terry Flanagan

With the more detailed rules to oversee the hedge fund and private equity spheres in Europe still yet to be published by Brussels, some in the industry are becoming fearful that the controversial new directive may force a number of firms to shut up shop.

The Alternative Investment Fund Managers Directive, which is the European Union’s first attempt at governing the sector and is due to be transposed into national law across all 27 member states by July 2013, still does not have its more detailed Level 2 text agreed upon as political wrangling and intense lobbying in Brussels by the hedge fund industry continue to hold the process up.

The U.K’s Financial Services Authority, meanwhile, recently published its first consultation paper on implementing AIFMD in a bid to provide clarity on the rules and requirements, especially surrounding the delegation of general investment policies and investment strategies.

“The Level 1 directive specifies that an AIFM must not delegate its functions to the extent that it can no longer be considered to be the manager of the AIF, but will instead be considered by its competent authority to have become a ‘letterbox entity’,” said the FSA document.

The FSA, the U.K.’s financial services regulator, says that the yet-to-be-published Level 2 text will “specify in considerably more detail” what this will entail, but many hedge funds based within the European Union are fearful that this could spell the end of the popular practice of domiciling for hedge funds, where a hedge fund is run out of London or even outside of the EU but its business is domiciled in either Ireland, Luxembourg, Gibraltar or Malta to benefit from cheaper labour and lower taxes but still boasts an EU address.

This outsourcing model, which many of the smaller funds especially tend to operate to save on costs, has worked well for many years but the new EU directive may put an end to this—and, in the process, seriously jeopardize the operations of some hedge funds as well as the attractiveness of these ‘onshore’ European domiciles.

“Unfortunately, uncertainty still exists around the directive with a number of hedge fund managers concerned they’ll have to shut up shop in light of increased regulation and the costs associated with the additional administrative burdens,” said Nicola Smith, chief executive of Helvetic, a Gibraltar-based fund administrator.

“Large fund managers are more adept at handling the changes and associated costs that regulation brings but for everyone else, what are the alternatives? As we get closer, we will expect to see more consolidation in the industry.”

When the AIFMD was first mooted back in 2009, the directive was heavily criticized for its potential to stifle Europe’s fund management industry. But, after endless arguments and negotiations, there is now little more than a year to implementation date and industry opinion has now turned to muted acceptance and a desire to work with authorities to make the best out of the situation.

“After a long and involved consultation period, AIFMD will soon come into effect and will be a watershed moment for the alternatives industry,” said Mario Mantrisi, chief strategy and research officer at KNEIP, a service provider to the fund industry

“While larger alternatives houses may have the resources to fulfill the new transparency and reporting requirements, smaller managers may struggle. There is an understandable concern that AIFMD will be a time burden that may impact their core business capabilities and as the deadline approaches, many managers will now be considering external help.”

Europe’s largest fund domiciles are also taking steps to make their centers more attractive to U.S. and Asian managers who will need to become AIFMD compliant to operate within the EU once the new rules kick in.

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