Fund managers from emerging markets are building an international client base using the 'Ucits' fund structure. Nick Fitzpatrick looks at the practicalities and the costs behind this strategy.
It was only a matter of time before investment managers from emerging markets started to bring their expertise at investing in their home countries to a wider international audience.
More and more of them from as far afield as Asia, the Middle East, and Latin America are using Europe’s “Ucits” fund structure to do this.
Ucits – which stands for Undertakings for Collective Investments in Transferable Securities – is a set of European regulations which govern a hugely popular type of fund that is recognised across a broad international arena.
BTG Pactual, Brazil’s largest investment bank, has launched Ucits funds and plans to offer more. Its fund range is domiciled in Luxembourg, which is one of the main centres for Ucits fund services. The other is Ireland.
Funds Europe, the sister publication to Funds Global, reported in March that Invest AD, an Abu Dhabi fund manager, was to switch the domicile of its flagship fund that invests in Gulf states from the Cayman Islands to Luxembourg where the Ucits structure will be adopted. Recently, Invest AD also launched a Ucits Africa fund aimed at international investors.
There have been other Ucits launches from Brazil, where the investment management business, with more than $900 billion under management, is the sixth-biggest in the world.
Leblon Equities, which offers a long-short Brazil strategy, has an Irish Ucits business, for example. In December last year, investment bank Morgan Stanley in London announced it had added a Claritas Investimentos fund under the umbrella of its dedicated Irish Ucits platform.
And in Chile, LarrainVial recently launched a Luxembourg fund that invests in small and mid-cap Latin American stocks.
Simple and safe
The idea of Ucits funds is that they are so simple and safe that retail investors can invest in them – even in structures that imitate the strategies of hedge funds or use assets that are normally the preserve of more sophisticated investors. But Ucits funds are used heavily by fund managers for expanding their institutional business, too.
Claritas Investimentos’s aim with its Morgan Stanley partnership is to build on its existing overseas business that is pitched at professional fund buyers, such as funds of hedge funds (FoHFs). Claritas operates the MS Claritas Long Short Market Neutral Ucits Fund on the Morgan Stanley platform, called FundLogic Alternatives. The fund targets uncorrelated returns within Brazilian equity indices.
The long/short fund is Claritas’s first Ucits fund, says Marcelo Karvelis, commercial director at the Brazilian manager, which had around $1.8 billion in assets in December 2012.
Claritas has offered the strategy since 2001 through a fund domiciled in the Cayman Islands, which has a lighter regulatory regime than Europe’s Ucits system.
A number of hedge fund managers in recent times have either created “mirror” Ucits funds to broaden their audience, or converted to Ucits structures with the main purpose of keeping clients that are no longer as comfortable with offshore locations such as Cayman.
Claritas found a need after the financial crisis to adopt a Ucits fund for some of its clients. “We have been managing funds for international investors since 2001,” says Karvelis. “We started macro and long/short strategies through the Cayman Islands, but this is what I call the ‘old school’ now.
“A lot of managers based in Brazil offer funds through Cayman. The structure was widely accepted until 2008 when the financial crisis happened, and then after the Madoff scandal, [fund structures] were questioned more.”
He adds: “From then on, Ucits started to play an important role in international markets. Most clients need to protect themselves and they want to avoid further problems with their structures. They want structures that offer more transparency and more liquidity.
“Clients want to avoid the ‘black boxes’ they had in the old school hedge fund world.” By 2008, Claritas, founded in 2001, was investing money for FoHFs. The financial crisis severely hit this sector globally. FoHFs clients pulled out – if they could, as some had been trapped by a lack of liquidity. Even though Claritas’s relative performance was OK, says Karvelis, the firm was penalised as international investors left the sector.
Many managers with Ucits funds hope to get over the liquidity issue by the fact that Ucits funds have tough liquidity requirements. For the Claritas long/short fund, there is weekly liquidity. For many more traditional Ucits funds, there is daily liquidity.
One of the main advantages of Ucits funds is that they can be distributed freely into the 27 member states of the European Union that have adopted the Ucits directive. Therefore, there is no need to re-apply to individual countries’ regulators. Ucits is also recognised by other countries beyond Europe – certain Asian countries, for example, are a large source of flows.
Carne Global, which has operations in both of the main Ucits centres, helps fund managers establish Ucits operations. The operational aspects can be onerous. Ucits have to provide daily pricing and the fund must have an independent third-party custodian to safekeep its assets.
Justin Egan, managing director of Carne in Luxembourg, says: “There’s an infrastructure that fund managers need to put into place to respect the regulations.”
Egan says he has a Brazilian client, though declined to name it. “With Ucits, they are trying to tap into international distribution for both retail and institutional business using the skill set they have, which is mainly the management of Latin American securities.”
His client has chosen to set up a Luxembourg management company, known as a “ManCo” in the parlance, to operate its Ucits. The other type of operating model permitted by Ucits rules is the “self-managed” fund. Both determine how the fund is governed and require that the manager shows “substance” in adhering to Ucits rules.
Egan says in his experience with US and Asian fund managers, the ManCo is the most popular operational structure. ManCos can be rented and are more “plug and play”, though he adds that the self-managed approach works equally as well.
Costs and compliance
Coming into the Ucits universe has many benefits, particularly when dealing with clients who are familiar with the Ucits framework. But there is still an effort required for mangers to “get up the Ucits learning curve”, says Egan. For example, much of the function of the ManCo – such as checks and balances – comes into play in the post-trade environment, so managers need to understand the pre-trade environment to avoid breaking laws.
Ucits fund compliance rules dictate certain investment limits. Leverage is also limited. The instruments that a fund can invest in are also limited, though rules have been relaxed over the years.
So, with all these compliance requirements, substance rules and the need to appoint independent providers such as a custodian, how much will setting up a Ucits fund cost you?
This is a “how long is a piece of string” question for Egan, who says that cost is a function of size. “A manager with half a billion of funds under management is, of course, going to have less basis points in cost to pay than a smaller manager. “This inevitably leads to the question of what is the minimum viable size? My answer is that if you can’t get your fund up to, at best, around €50 million in a year or two you will struggle to remain competitive from a cost perspective.”
Teaming up with Morgan Stanley, which is one of a number of platform providers, has helped Claritas to dilute costs. “There are costs involved in Ucits,” says Karvelis. “It’s more costly than Cayman. This is a reason we are on the Morgan Stanley platform – to reduce those costs.”
Claritas’s partnership with Morgan Stanley stems from an older relationship with Morgan Stanley’s prime broker business.
“We were discussing Ucits internally but the costs to set up the whole structure was a barrier. Then Morgan Stanley offered us this route.” Morgan Stanley also offers Claritas access to client money, and Karvelis says the firm has already seen inflows from the platform, including from a seed investor. Discussions are already taking place at the firm to launch more Ucits funds. “We have two more strategies that could be offered. Long-only Brazilian equities is one that would make sense.”
©2012 funds global