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Magazine Issues » November 2010

DOMICILES: Should I stay or should I go?

handshake_globeThe flight to Europe from unregulated fund centres like the Cayman Islands may have been overstated, says Angele Spiteri Paris

As pending regulation looms over the funds industry and clients have become more tetchy about transparency and controls, we’ve seen some fund managers moving funds from offshore domiciles, like the Cayman Islands, to onshore locations like Luxembourg and Dublin. But the number of managers making the move has not been staggering and the so-called ‘exodus’ from Cayman may well have been overblown.

In recent times, a number of managers announced their departure from Cayman. Marshall Wace, a London-based hedge fund manager, was one of the most well-known firms to make the move. The firm would give no comment as to the reasoning behind it.

Others that have redomiciled all or some of their funds include Signina Capital, a Swiss-based hedge fund and fund of funds, Zais Group, a US distressed credit manager. And SkyBridge Capital, another US-based alternative manager, is reportedly considering creating Luxembourg Sicav versions of two Cayman-based funds of hedge funds.

Similar to Marshall Wace, the managers making the move haven’t made much of a song and dance about it. XL Capital, now called XL Group, is one of the few fund groups that actually issued a press release regarding the redomiciliation.

XL CEO Mike McGavick said in the release: “We believe that our redomestication to Ireland will offer us opportunities to reduce certain risks and reinforce our reputation across our global business platforms. We look forward to the successful completion of this initiative this summer.”

George Cadbury, director at Merchant Capital, which builds platforms for European-regulated alternative funds, says: “There is a preemptive element to the move from Cayman to Dublin or Luxembourg. Managers don’t only need to be at the forefront of change, but they also need to show that they are proactive in the face of potential change.”

Dan Mannix, head of business development at RWC Partners, said: “The traditional buyers of Cayman funds have been particularly badly hit over the last two years. In contrast, the buyer of onshore funds has been fairly robust. Consequently, Cayman funds have struggled to raise or retain capital in contrast to those onshore funds that have the appropriate structure to take money from onshore buyers.”

But, despite some very public moves, Cayman remains a dominant domicile and determining whether this has threatened its status is not easy.

Jean-Michel Loehr, chief of industry and government relations at RBC Dexia, says: “I think all the recent research is inconclusive. Some studies tend to show Cayman funds have the upper hand, while others say the contrary, in terms of performance at least.”

Lawyers Conyers Dill & Pearman, who advise on the laws of Bermuda, British Virgin Islands, Cayman Islands, Cyprus and Mauritius, said: “While a few European-based managers and investors are taking steps to move their funds closer to home, we are not seeing the threatened drift away from the Cayman Islands to destinations like Luxembourg and Dublin.

“While there is no doubt that the Cayman Islands’ funds industry has taken a knock in recent years, as has the industry generally, it remains phenomenally strong. Recent statistics from the Cayman Islands Monetary Authority show registered fund numbers hovering around 9,500, a drop of only 5% below the all-time high water mark of 10,000 registered funds in mid-2008. This is not a dramatic decrease in numbers, considering the massive economic turmoil of the past two years. Indeed, fund numbers have continued to rise on a monthly basis in 2010, with some predicting they will be back up over 10,000 by the end of this year.”

A research paper by Citi called Hedge Fund Trends for 2010 and Beyond, also revealed that the Cayman Islands remained the dominant domicile for hedge funds.

Loehr, at RBC Dexia, says: “There have been a number of moves, but measuring their real amplitude has proved difficult. There is a lack of official data and the definition of redomiciliation itself is ambiguous as it could include funds that direct new business to newly created regulated products while also keeping their existing unregulated Cayman offerings in place.”

Jeff Holland, managing director at Liongate Capital Management, a fund of hedge funds firm, says: “The number of funds redomiciling has been fairly limited. It’s true there were less registrations in Cayman at the end of 2009 then at the end of 2008, but that has more to do with the contraction of the industry as a whole rather than an exodus from Cayman.”

Following the financial crisis and most of all the Bernie Madoff scandal, the term offshore had almost become a dirty word in 2009, with Cayman having been put on the Organisation for Economic Cooperation and Development (OECD) grey list for not having implemented international standards for tax disclosure.

The Cayman Islands were subsequently removed from the list, but potentially some reputational damage remained.

Cadbury, at Merchant Capital, says: “Cayman is being scrutinised much more  and  governments sometimes feel that they are being  held to ransom by the Cayman Islands. Investors are questioning the opaque nature of offshore funds and they want more control and transparency.”

However, some experts say this may not play as a big a role as some may think in investors’ minds. Holland, at Liongate, says: “Investor perception does play a role in the decision to redomicile funds, but it would be a mistake to overemphasise its importance, because it is marginal.”

In fact, in a survey carried out by consultancy KPMG, 81% of institutional investors indicated that domiciliation makes little difference with regard to allocation decisions.

Anthony Cowell, partner at KPMG in the Cayman Islands and principle author of the report, says: “While investors are clearly looking for products with increased transparency and liquidity, they do not seem to be demanding regulated products. Nor are they particularly concerned with the question of domicile, which runs counter to how much attention the onshore/offshore debate has attracted lately. Managers would therefore be wise to maintain their offshore fund range for their bedrock investors even while EU domiciles develop complementary structures onshore.”

So the move onshore does not mean an abandonment of offshore centres, like Cayman, but rather gives managers a back-up option.

Loehr, at RBC Dexia says: “We’ve seen a large number of hedge fund managers launching Ucits offerings, some of them replicating their Cayman strategies through the use of derivatives.”

Arguably, a large part of the impetus for the creation of onshore vehicles mirroring those offshore is embedded in the pending Alternative Investment Fund Managers Directive (AIFM). Were this regulation to be introduced in its strictest form, offshore managers would be essentially locked out of Europe, therefore creating an onshore suite of products will allow them to maintain a foothold in the European markets.

Holland says: “The EU directive could lead to more redomiciliation but other than that I don’t expect a big increase in the number of funds looking to redomicile to an onshore jurisdiction.”

Cadbury, at Merchant Capital, says: “It’s still too early to tell which way it will go. The AIFM directive is going to have a huge impact on offshore fund centres. If the French get their way and the strictest version of the directive is introduced, then  many managers will be forced to reevaluate the domiciliation of their existing funds.”

But this now seems highly unlikely as EU finance ministers have since agreed that offshore funds will be allowed a passport to distribute in the EU.  Therefore, although a final sign-off is still required, changes in regulation will not contribute significantly to an increase in redomiciliations.

Mannix, at RWC Partners, says: “Cayman is unlikely to disappear as a domicile for funds and as governance structures for Cayman funds and the fear surrounding AIFM subsides it may be the case that Cayman starts to see good growth again.”

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