Asia is increasingly concerned about what the eurozone crisis means for Luxembourg's Ucits funds, which are distributed widely in the region. Our panel discusses this development and other themes affecting the fund and asset servicing industry. Chaired by Nick Fitzpatrick.
Sebastien Danloy, managing director (RBC Dexia Investor Services)
Chris Edge, managing director (JP Morgan Worldwide Securities Services)
Georg Lasch, head of client development (Luxembourg, BNP Paribas Securities Services)
Barry McGloin, sales manager (Caceis Investor Services)
Pervaiz Panjwani, head of securities and fund services (Luxembourg, Citi)
Olivier Renault, deputy CEO & country manager (Societe Generale Securities Services)
Funds Europe: What are the other most tangible outcomes of the Aifm directive? Has it led to a way of ‘doing things’ in the sense of structuring investments funds? Has the increased liability placed on depositories impacted custody or associated asset servicing fees?
McGloin: Asset managers will have to consider what they need to do to become compliant with the directive. This will require a certain amount of commitment internally to determine if their corporate and fund governance is appropriate under the directive. They’ll also need to assess the external business driver. For example, are they citing this change in order to maintain an existing client base, or to obtain access to a European client base?
In terms of depository duties the latest draft reduces custodians acting as insurance companies with untenable levels of liability. The legislation allows the custodian to pass liability under contract to the sub custodian. Nevertheless, agent networks are likely to experience increased level of due diligence. One of the key challenges for the custodian will be to ensure that it applies adequate supervision, as the reverse burden of proof will require depositories to demonstrate they have no responsibility in case of lost assets. Whereas previously, any claimant had to prove the custodian had been at fault.
Certainly one feature we’ll welcome is that the legislation will provide a more level playing field as it offers a blanket definition on safe-keeping, whose loose interpretation had led to different legal outcomes between jurisdictions.
Renault: The Aifm directive is still a complex topic. We still don’t know what will be in the regulation.
There are three ways to look at it, the first being from the asset management point of view. Alternative asset managers will have to face more regulation and provide more reporting. They will at least have to provide an annual report, which is not the case for Cayman funds. They will need to be more transparent about their portfolios, and to negotiate with depository banks, which means certain funds will take more time to come to market. On the flipside of these constraints will be the opportunity to distribute funds everywhere in Europe with the European passport.
For the depository, if we consider there are two levels of liability in the European Securities and Markets Authority’s advice, safekeeping will be different from record keeping, so some securities will be safe-kept and some others will be only recorded. I expect there will be a lot of discussions between asset managers and depositories because a depository will have the possibility to transfer its liabilities to the funds.
The picture is not clear, but what everybody does expect is that custodians will have more liabilities, meaning that we will have to perform more controls, meaning that normally we should increase our fees. But as asset managers face pressures on their costs, I am not sure what will be the result of the negotiation between the depository banks and the asset managers.
The third point is competition between countries. Because there will be a convergence between the alternative and Ucits funds, it should benefit Luxembourg because of its brand name, and that asset servicing providers here have the skills to manage these types of funds.
Edge: I suspect it won’t be as draconian as some may fear. There will be a greater liability and obligations placed on custodians, but the focus should be on the steps that they can reasonably take to assure asset safety.
Panjwani: As custodians we have to think about the potential impact on the services we want to offer going forward. How much as custodians are we willing to delegate to third parties, for example. If we have to perform controls /oversight on the NAV [net asset value] calculations or monitor any investment restrictions, as global custodians, are we willing to work with third-party fund administrators, for example? Or we keep all processes in-house because it’s the safer option?
Danloy: If the liability of depository banks becomes more severe, we will all have to re-think what services to offer. It may mean that we stop offering services in some countries or not allowing some clients to invest any longer in certain countries where we are not comfortable with the liability for a sub-custodian in those markets.
I can imagine at some time regulators taking an interest in our capital requirements because of the increase liabilities under Aifmd. Some banks are already closing investment banking activities because they need a lot of capital, and might go through the same thinking process with depository businesses.
Lasch: If there is a difference between assets safe-kept and assets recorded, there will be a strong discussion with the asset manager on how to include some of the assets either under direct responsibility of the depository bank or of the asset manager. The depository cannot accept acting as an insurer for all types of assets in all markets. For a depository, it’s a way out of some of the responsibilities but, in the end, the regulator is aiming to protect the investor and that would not necessarily improve their protection.
As for fees, for the moment there is no drive to change them, but what’s for sure is that if risks increase, if the workload increases for due diligence and other controls and reporting, there is obviously a higher chance of fees increasing.
Funds Europe: What pressures or issues do you see affecting the asset servicing industry in Luxembourg over the next twelve to 18 months?
Lasch: Due to the tsunami of regulation coming our way, what has mostly changed over the past two years, and will continue to change, is the way we approach risk management. Products should report more transparently about risks. Also, providers and asset managers have to provide better ways to appreciate risks, that is certainly a very evolving topic, whether it’s on liquidity, statistical risk or whatever, but it’s certainly going to improve and it needs continuous investment.
Danloy: I think the main challenge for the industry as a whole is how Ucits is positioned as an investment product. European banks are looking for cash and trying to beef-up their capital for Basel III. This means some open distribution architectures are slowly closing. In continental Europe, banks are the main distribution channel for investment products. They may offer more easily on-balance-sheet rather than off-balance-sheet products to their clients. So, what is the positioning of Ucits in that new environment where there is a limited amount of investment available and different players looking for the same resources?
Panjwani: A theme that occurs often with clients is support for distribution, how to act as a facilitator for our clients to grow assets, because in the end it would be a win/win situation. How can we help asset managers to go global? How can we support global asset managers to go into local markets?
Funds Europe: Where does Luxembourg go next as a financial centre?
Edge: It must consolidate its position as domicile of choice for alternative funds. It’s doing a really good job so far and that momentum needs to continue.
Perhaps Luxembourg should be a domicile of choice for establishing a kind of Europe-wide 401k [US occupational pension fund system] equivalent to enter the long-term savings opportunity in Europe.
Renault: At this stage, Luxembourg is the first country in Europe to apply new regulations, which is good and allows us asset servicers here to be first on the market. Another point is linked to the evolution of the operational model and the needs of our clients to outsource more and more new services to us, which is good for us, but we need to cope with new operational risks which is sometimes tricky.
Panjwani: Although regions outside Europe are trying to create their own fund brands, the fact remains that so far Ucits is the only globally distributed investment fund product. There will always be a need for a global product because it’s simply the most efficient way in dealing with different sets of investors in a number of different markets. What Luxembourg and its service providers need to make sure is that we have the right servicing and operating models to satisfy the needs and requirements of Ucits managers.
Lasch: Luxembourg must embrace change as we’re the best at managing it. I think while regulation is obviously difficult to cope with at the speed at which it comes, if we continue to be the first one to implement it we’re also going to be the first one to benefit from it.
McGloin: Luxembourg remains the domicile of choice for asset managers looking to launch a regulated product to a global market. It will always be at the forefront of jurisdictions in terms of adapting to ever-increasing regulatory, manager and investor requirements.
Danloy: The most important challenge for the next twelve months is clearly around the Aifm directive, and how we grasp all the benefits as a servicing country as well as a domicile.
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