Ucits IV: Some common sense from Europe....Finally

3/3/2011 12:00:00 AM

Mention the words European Commission to any hedge fund manager and their blood pressure will most likely rise exponentially. And with good reason too. The European Union’s alternative Investment Fund Managers Directive (AIFMD), its short-selling proposals and the general negative rhetoric towards the industry by member state politicians have all certainly helped fan the flames of discontent among managers. However, UCITS IV - much like the original founding principles of the then European Economic Community - does seem to bring some unity to the table.

UCITS IV, which comes into being in July 2011, looks set to rejuvenate the industry through its management company passport. This innovation will enable a management company
incorporated in one European jurisdiction, for example the UK, to establish a UCITS-compliant
fund in another jurisdiction, such as Luxembourg, and manage the fund from the UK. Prior to this, if a fund manager wanted to set up shop in another jurisdiction, they would have required a physical presence in both countries. Providing the fund complies with cross-border legislation, this new policy should ease the bureaucratic burden and cost impacts on fund managers – many of whom are being hit by other stringent compliance and regulatory requirements elsewhere.

Not only will it be easier to establish a fund in another jurisdiction but it will also be less cumbersome to market and distribute a fund in different countries on the continent.As of this summer, a fund manager can notify their domestic regulatory authority that they intend to market a UCITS product in another EU member state – once the domestic regulator has informed the regulatory body in the other member state - a process that should not take more than a few days – the manager can start to market their fund.

Another important aspect of UCITS IV is the new master-feeder structure. It will enable a UCITS feeder fund to be invested into the UCITS master fund – thereby making the entire investment leaner and cheaper for investors. This should help facilitate access for a variety of investors into European funds.

Perhaps the most significant by-product of UCITS IV is the KIID (Key Investor Information Document). Under the latest provisions, fund managers will need to offer investors a simple prospectus, the standard form of which is now agreed upon. This document, which replaces the loose, simple prospectus of the past, will set out their track record, service providers and risk management protocols. Some investors have repeatedly complained that prospectuses often use garbled, complicated language and are incredibly subjective. The KIID ought not to be longer than two to three pages. Again, not only will this save costs for the managers but it will generate plaudits from investors, particularly retail ones who might not always have the sophistication of an institution. However, just because this document is simple, doesn’t mean managers should rest on their laurels. UCITS-III-compliant managers should seek advice from experts about best practice when formulating the KIID – and most importantly, they should not wait until the last minute to write them – these documents need to be in good shape prior to the actual implementation of UCITS IV. We are already getting a lot of calls from Luxembourg-domiciled managers asking us what they need to do. We also encourage new funds to start using the KIID– something they can do already. To think in advance about this will no doubt give managers some free marketing advantage that may make the difference when it comes to raising money in a competitive world.

The UCITS bandwagon has seen a surge in investor and manager interest. Deutsche Bank’s Hedge Fund Capital Group estimates there are currently $140 billion in assets in UCITS III absolute return funds. However, investors – albeit predominantly European – could allocate more than $185 billion into UCITS-III absolute return vehicles throughout the course of 2011, according to a Deutsche Bank survey of sophisticated investors. On the other side of the spectrum, Cayman funds look set to attract $55 billion in capital inflows. Brand name hedge funds including Sloane Robinson and Paulson & Co have also recently unveiled UCITS strategies of their own – the UCITS product is clearly gaining traction.

The UCITS-cause is also helped by the incoming AIFMD. For non-EU funds hoping to tap the European market, it is a no-brainer to adopt a UCITS wrapper. The sophisticated Asian investors are also buying into UCITS as they recognise the comfort they can gain from this well established and regulated brand. UCITS IV looks set to make the entire process even more streamlined.

Despite the occasional comment about UCITS underperforming their counterparts when it comes to looking at alternative strategies, the UCITS brand is here to stay because the investor appetite - at the end of the day – is here to stay too. It is the easiest way and the cheapest way for investors to buy into a trustworthy fund set up, where not only the fund but the actions of the managers are monitored. There are still ongoing efforts to improve the standards of UCITS funds and some European States are adding new local regulations, for example on the role of the directors of such funds. As things stand, there is no fund structure like UCITS that guarantees the rights of investors so effectively.

Jérôme de Lavenère Lussan is the founder and chief executive officer at investment management consultancy firm Laven Partners. The company, which has offices in London, Barbados, Luxembourg and Geneva, provides investment managers with guidance on fund establishment, regulation, compliance controls, risk management, operational due diligence and structuring. De Lavenère Lussan was previously a chief operating officer at a hedge fund and a financial lawyer at Jones Day.