In this part the executive panel discuss how Ucits IV influences cross-border distribution and how Aifm already affects alternative investments.
(Nordea Investment Funds), Jon Griffin
(JP Morgan), Charles Muller
(Alfi), Pierre Weimerskirch
(Ernst & Young), Johnny Yip
: The effect of Ucits IV on cross-border distribution and AIFM on alternative investments.
Funds Europe: How far has the Luxembourg Ucits project gone in dissolving national barriers when it comes to cross-border fund distribution and administration? It is interesting that we have heard from Christophe of the preference for Polish domiciled funds in Poland.
Muller: I think the Poland situation is perhaps not unique and it can happen everywhere. A German probably prefers to buy a German car than a French car, and the French probably prefers to buy a French car. This sentiment can be found anywhere.
This should not prevent us from making cross-border distribution as efficient as we can, and certainly the notification procedure should help if the procedure is in place, so it should dissolve these barriers.
Griffin: And I think that there’s a certain neutrality to the Luxembourg fund domicile that probably gets a different reaction than the French person buying a German fund product or an English person buying a French fund product. Equally, products built here take account of many features required in order to be attractive to investors in multiple jurisdictions. In a recent report on global fund distribution at the end of last year it was noted that Luxembourg funds today are registered for sale in 70 domiciles around the world, 31 of which are in Europe. The scale of cross border activity is clearly there, and 76% of it is Luxembourg product going overseas.
Luxembourg started over 20 years ago initially passporting Ucits to neighbouring countries, and then the non-EU international space opened up, in particular Asia and Latin America where a number of international players have penetrated those markets very effectively providing well regulated products to investors.
Weimerskirch: Luxembourg is a small country and an export country in every sense. When Ucits came along, Luxembourg jumped on this opportunity and developed it together with international distribution. It is a huge success story. Also, with Ucits IV, the world becomes flatter.
The increased competition from other players probably makes it now a little bit more difficult for Luxembourg, exactly because the world is becoming flatter; regulatory arbitrage becomes a little bit more difficult, but the competencies, the capabilities here in Luxembourg for international distribution, are unique and difficult to copy.
Funds Europe: Will Ucits IV reduce some of the red tape in cross-border distribution?
Griffin: Well, there is only the notification process which, yes, that removes some of the bureaucracy in the EU. It doesn’t deal with the non-EU, but actually the non-EU processes tend to be quite straightforward. But as we mentioned before, that notification process is only for new funds, and a lot of what we do is update existing funds, so in actual fact I think you haven’t taken away as much as could have been taken away.
Weimerskirch: In terms of how these regulators are going to cooperate in the future, and with the new regulatory body Esma [European Securities and Markets Authority], I think this to some extent also complicates the whole environment and cooperation of the regulators.
Girondel: Don’t forget also that there are 27 of them, so we are not speaking like two people meeting in a room. Everybody has a say and every country has its view on things. Getting things done in Europe can be very complicated, but I think sometimes we are too pessimistic. Europe functions well when you think about it, in the past 30 years.
It is important to remember that there is no Luxembourg Ucits project; Ucits is a European project.
However, the Luxembourg marketing effort on Ucits has been very strong and distinctive. The idea of cross-border distribution has been the focus of the Luxembourg Ucits development, creating unique expertise and solutions to meet investor’s needs.
Griffin: Luxembourg has become synonymous with the Ucits brand worldwide, based on its successful product export orientation.
Weimerskirch: Luxembourg doesn’t have a big local market so if you want to be successful in distribution and in terms of volume, you need to export.
Funds Europe: How is the Alternative Investment Fund Managers Directive (AIFM) changing the face of Luxembourg’s non-Ucits funds industry?
Griffin: The directive finally was issued late last year with, I believe, with some relief in terms of what came out in the final text but with the clear reality that it’s all going to be in Level 2 detail consultation, discussion and debate. Luxembourg should play a role in the development of this and the time is now.
Weimerskirch: Today when we look at Luxembourg, private equity, real estate or hedge funds are already big in terms of volume and number of funds. I think that for Luxembourg there is no fear about AIFM because most of these products, at least the regulated ones, are very close to complying with it already.
Of course there is a big discussion around the custody and depository role, and the liabilities and duties they have. We are already having discussions about depository on the private equity and real estate sides.
I think it is less of an issue for private equity and real estate. It may be different for hedge funds which hold financial assets. A physical asset is much more difficult to lose than a financial security, so I think there are different types in liabilities we are talking about here.
Girondel: AIFM is probably the most important piece of legislation for our sector since Ucits I, and so the transposition and implementation to Luxembourg law is going to be a real challenge because AIFM more or less came out of nowhere. It’s not like Ucits where you had a green paper and a white paper, so it’s going to be a challenge to implement the directive. But if you get it right there are also huge opportunities linked to the directive.
Every alternative investment fund manager will have to rethink their business model. I am not saying that they will have to change their model, but at least they will have to think about issues such as whether they will stay in the Cayman Islands or wherever they are, and about what they are really trying to achieve. This is certainly one of the priorities for Alfi over the coming years, to get into the minds of the people advising these investment managers and get them to think about Luxembourg. If they take the decision to be in Europe because they realise that selling in Europe would be easier with a passport and with European-domiciled funds, then I think we should be able to build on the strengths that we have developed under Ucits since passporting began in order to attract that business to Luxembourg.
Griffin: I think the point to be made is that there is a lot of that non-Ucits alternatives business here already and Luxembourg is not just a domicile that can only administer Ucits.
Weimerskirch: Absolutely. AIFM is a chance for Luxembourg to leverage on its reputation. The skills we have put in place have been for the Ucits world, and now we need to replicate them. The challenge being how exactly we are going to implement it?
Coming back to my earlier point, the world has become flatter and this time also other jurisdictions will be ready to move fast. When the Ucits laws came in, Luxembourg was the first mover and did it more or less rightly and benefited from this first-mover advantage. I think this time other jurisdictions will also try to move fast on this one because they see AIFM as a unique opportunity. Non-EU countries are also in their starting blocks. The Channel Islands, for example, definitely also want to comply and to be within the EU with their funds.
Yip: And I think competition will be tougher in the non-Ucits sector for Luxembourg. I also think there will be more players servicing non-Ucits structures here. It could be the smaller houses, the medium-size ones, but certainly there is a market out there which we could attract and that we are already attracting. As Pierre noted, we already have a lot here. But there is a range of services which Luxembourg is already offering and should be marketed more actively in order to replicate its success in Ucits.
Funds Europe: Getting the AIFM Directive seems to have been one of the most painful legislative processes in a long time, consuming a huge amount of effort from all around the industry. Has it been an efficient legislative process? Can it be made much more efficient?
Muller: Charlie McCreevy, who was the Commissioner at that time, for years had said that he wanted a light-touch regulation. Then there was the Rasmussen Report in the EU Parliament calling for tougher regulation of hedge funds, so he was under tremendous political pressure to regulate, especially since the G20 decided that hedge funds were a source of the crisis and should therefore be regulated. The Commissioner has, in the meantime, accepted the fact that a lot of actors, including Efama, said that if perhaps the process had been better, with a green paper and a white paper, then the outcome would have been much smoother with a less highly political debate.
A meeting between Gordon Brown and Sarkozy was all about AIFM - that’s the level where in the end the discussions were taking place.
Girondel: It’s also highly convoluted. You are regulating everything from real estate to private equity. So then it becomes very difficult to find general rules that encompass all the specific cases without preventing product development.
I also tend to agree that it’s going to be extremely competitive. I am sure Malta is going to try and position itself on these products, so there will be an important competition. I am quite curious to see how this law will be transposed because today it is still very broad.
Muller: All the controversial questions, in the end, in order to find a political agreement, were taken out and put into Level 2, and this is the work that is taking place now. The amount of regulation that is still to be discussed is absolutely phenomenal.
Yip: If you look at what is happening to Japanese institutions investing in a Luxembourg structure, you will see that before now, they were using holding companies in Luxembourg. Then when the 1991 law was created for institutional investors, they converted their holding companies into Luxembourg FCPs with a Chapter 14 management company. The main reason being was that Luxembourg was in the OECD, and these institutions’ internal rules deemed that they should invest in an OECD country. With AIFMD we could see a rethink of the model.
Funds Europe: Are fund managers from emerging markets, like the Gulf and Asia, choosing to domicile funds in Luxembourg changing the face of the industry?
Weimerskirch: As I mentioned, over the last four weeks I have travelled to Asia and to the Middle East, and I have contacts with the Brazilian banks, and yes, everybody is tempted to come to Luxembourg. I think Alfi has done a good job in promoting Luxembourg.
A few years ago in the Gulf, they would say: ‘Okay, how much does it cost to launch a fund in Luxembourg, we’ll compare it to the Caymans?’ Cayman was then their jurisdiction of choice.
And now I think that, with the crisis, they are more into transparency and into good corporate governance. In the meantime, they have also built some decent funds in terms of performance, and they want now to sell to a broader investor base, and they know that they cannot do it through a Bahrain-based fund or a Dubai-based fund, therefore they want to have another jurisdiction.
They are looking seriously at Luxembourg, and also at Dublin and now at Malta. Malta has very good connections and I was also told that the Maltese people can understand the Arabic language.
So having said this, yes, there is a strong interest, and we have seen the launch of funds, mostly in the Sif range, less in the Ucits range.
The problem they have, like those from China – and note that China Asset Management, the biggest asset manager in China, has launched a Luxembourg-based fund through a Hong Kong subsidiary – is the problem of distribution. Therefore they need to become part of a distribution platform in Europe to distribute their funds.
There are new funds in the pipeline which have selected Luxembourg, but the next problem or challenge is how are we going to distribute these funds, and to whom?
Girondel: I would add that not only has Alfi done a fantastic job, but also the Luxembourg government. Luc Frieden, minister of finance, has been very engaged, with a visit to Brazil, for example. It’s the whole country that has been promoting this investment fund industry towards the rest of the world.
It is a reflection of what is happening. Emerging markets have been growing and becoming stronger. They are very sophisticated asset managers; if you look at Brazil the investment management industry has been managing local investment funds in Brazil for years. Now, they are looking at worldwide expansion with the idea of selling their expertise to the rest of the world.
And then obviously Luxembourg and the Ucits brand become a natural way to try to pursue that ambition. The only issue, and Pierre mentioned it also, is that distribution is an intricate animal, which makes it a problem for the emerging market players. It isn’t as simple as just coming into a new market, registering a fund and then distributing it.
Weimerskirch: That’s exactly what they are underestimating.
Griffin: But looking from the outside of Europe inwards, they could say, “If I was able to take this great performing fund product and connect it some way or somehow to distribution, then look what could happen.”
Girondel: We have just opened an office in Brazil and have one fund, which is domiciled in Luxembourg, managed by a Brazilian asset manager. That is one way for them to get distribution.
Weimerskirch: I think we are going to see more joint ventures, where emerging market managers bring their expertise to a certain market and then look for some kind of partnership with someone who can help them distribute. It will also happen the other way round, so interesting products that we have here in Europe, we could get them to better distribution channels in these countries.
Yip: This will definitely bring Luxembourg to the next level in terms of cross-border distribution.
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