Regulatory Patchwork Vexes Europe Investors
Fund managers either domiciled or doing business in Europe fall under different regulatory regimes, each of which can hold implications for large swathes of their businesses.
“One can distinguish between traditional mutual funds, which in Europe are called UCITs funds, and the non-traditional funds which we call the alternative investment funds,” said Hermann Beythan, partner at international law firm Linklaters, and active member of the ALFI MiFID sub-working group.
Regarding mutual funds, three regulations in particular are most prominent on market participants’ radar: PRIPs, UCITS V, and MiFID II.
PRIPs (Packaged Retail Investment Products) is aimed at providing an equal playing field for all products that have commercially the same purpose, namely investment funds, certain life-insurance policies, certain certificates, and certain types of bank-account construction.
“The idea is to provide the same form of disclosure for all these products, in the form of a key-investor information document such as already exists for UCITs,” said Beythan. “This will certainly be good and favorable because it permits the consumer to compare different products which commercially and economically the same.”
UCITS V is more problematic because of an idea floated by the European Securities and Markets Authority that there should be absolute independence between the fund management companies and the depositary.
“Such independence should not only be a functional independence, but go as far to prohibit them from being part of the same economic group of companies,” said Beythan. “This, in the view of the industry is not really productive and does not make such a lot of sense.”
It’s commonplace for management companies to be part of the same group of companies as the depositary. Conflicts of interests are avoided by way of legal provisions that stipulate that the management company and the depositary must act independently from each other and only in the best interest of the investors, explained Beythan. Moreover, there must be functional independence, and it is believed that this would be good enough to protect the interests of the investors.
The third regulation affecting UCITS is MiFID II, which prohibits inducements for independent advisors. This will have an influence on distribution models, Beythan said, because most distribution models in Europe today are commission-based, meaning the distributor receives the commission from the fund producer.
“Investors are typically not willing to pay separately for investment advice, so this will be a change under MiFID II,” Beythan said. “There are indications that this may be extended to non-independent advisers, which may be less easy to justify. In any case, it will have a profound impact on how investment funds are distributed.”
Regarding the alternative fund side, Alternative Investment Fund Managers Directive (AIFMD) is the governing regulation. Most intriguing is the situation where non-EU funds are targeting EU investors, in which case funds have to choose whether to go the private placement route, “which is quite complicated because you have to make notifications to the various regulators, and then maybe gold plating additional national requirements,” said Beythan.
A second possibility is to have the fund outside the EU, but to have the AIFM in the EU. “You still have the private placement regime, but at least in terms of reporting you only have one authority which alleviates the reporting,” said Beythan.
The third, and last, possibility is to set up a parallel fund within the EU, “where you would then get the passport in the various EU jurisdictions, which seems to me the most straightforward way.”
“UCITS V only deals with UCITS,” said Beythan. “UCITS are excluded from the scope of application of AIFMD. Whatever is UCITS does not fall under AIFMD.” While there is no overlap between UCITS V and AIFMD, there is some “cut and pasting,” especially regarding depositaries.
Both AIFMD and UCITS V require a depositary to perform cash-flow monitoring, safekeeping of assets and oversight of operations.
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