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Magazine Issues » June 2015

FUND FORUM: Expert comment

Ahead of the Fund Forum International conference in Monaco this month, Funds Europe catches up with conference delegates and participants.


Which topic will generate the most heated discussion?
I believe that innovation – what it means, how it will come about, and the best ways for asset managers to implement it in their clients’ interests – will be discussed in depth at FundForum International 2015. In
my view, boutique asset managers will be at the forefront of the innovation process.

But asset managers need to be careful how they approach innovation: since the financial crisis there has been a view among the public that financial innovation is dangerous. It’s understandable why such opinions prevail.

In reality, innovations such as the stock markets, pooled investment funds and, more recently, peer-to-peer funding platforms, have played a major role in helping the economy to function and grow. So we need to make sure we communicate the benefits of innovation to our clients.

Innovation involves more than just launching new products. It could be a new approach to investing, a new service or a better process.  Good innovation is ultimately about improving our clients’ experience.

How and why does innovation arise? There are a number of drivers.

Major crises are often harbingers of innovation. For example, 2007–08 showed that government bonds aren’t always safe investments and that equities don’t automatically perform well over the long term. In the aftermath, risk was redefined as volatility and drawdown rather than tracking error against a benchmark. New risk-based approaches to asset allocation such as risk parity emerged, and the concept of diversification changed drastically. 

New regulation will drive innovation. Mark-to-market accounting rules for pension funds have seen the development of liability-driven investing capabilities, while Solvency II has created new requirements for insurers, compelling asset managers to develop transparent risk-management reporting.

Asset managers will also have to innovate to respond to investors’ changing priorities. Clients are increasingly focusing on outcomes, such as capital growth, liability matching and inflation protection, rather than beating a benchmark. 

Digital technology has disrupted many industries, and is having an impact on ours. The potential entry of firms such as Google, Facebook and Amazon to the industry represents a risk to traditional asset managers, but it could also open up opportunities. 

So, asset managers will need to innovate on several fronts in the coming years, raising another question: how can we foster creativity?  Encouraging innovation can require cultural transformation, such as fostering a willingness to learn – and a tolerance of failure. Not all new ideas work. We also need to look outside our organisations for new ways of thinking. Increasingly, innovation is a result of seeing how other industries have solved similar problems. 

Many mainstream fund management firms take an almost industrial approach, mass-manufacturing low-cost index-replication strategies. Passive approaches have become very popular as they involve low management fees. As a result, traditional active products run the risk of becoming obsolete or the victim of price wars.

But for many investors, this mass-market approach isn’t enough. People are becoming used to customisation in other aspects of life and will expect it when it comes to the management of their assets. 

Changes in the industry are creating excellent opportunities for firms to develop solutions that meet investors’ need for customisation. This demand for bespoke solutions will form the next big trend in the investment industry and developing them is precisely where boutiques will come into their own.


Within fixed income, which topic will generate the most heated discussion?
Probably whether bond yields in Europe are moving materially higher in the near term due to stronger European growth and inflation. Let us remember that the US, one of the stronger economies in the developed world and well ahead of Europe in the economic recovery, is still debating when rates will increase, after years of low rates and QE [quantitative easing]. In Europe, without more structural reforms, the short-term improvements from lower commodity prices and a weaker euro will be short-lived. The ECB’s QE programme should keep yields anchored in European fixed income and therefore investors can look to this asset class for opportunities. 

If anything, the back-up in yields may allow investors an even better entry point into European fixed income for both sovereign and credit opportunities. 

What impact has the introduction of QE had on the funds industry?
The introduction of QE has impacted money market funds the most in the fixed income space as yields have declined to zero or negative. In addition, it has pushed investors out along the risk spectrum into more volatile funds. Looking forward, it’s key for investors to find managers that offer diversified and flexible investment strategies, and who show an ability to navigate volatile times.


Which is the best way to protect against geopolitical uncertainty?
The best protection is to be cautious, highly selective and to have a detailed understanding of risk.

BNP Paribas Securities Services has expanded globally over the last five years and has never had a greater global presence. However, this was done with great consideration and a diligent awareness of geopolitical risk. Sometimes the best decision you can make is not to enter a new market.

How far has the impact of RDR in the UK given the European fund industry a taste of MiFID II?

RDR’s main concern is transparency, pointing to a sweeping trend in regulation across Europe. MiFID II is also centred on transparency, and although its text on fund distribution fees is less stringent than RDR, it is pleasing to see investor interests represented in this way and already being implemented at the local level. 

Similar local regulations have come into effect in Switzerland and the Netherlands – indeed suggesting there is more to come. 

What are the most important aspects of Ucits V?
The Ucits brand has long represented a gold standard of investor protection in fund management.

The latest iteration will largely align with AIFMD, including in terms of depositary duties, and also increase harmonisation across markets in Europe.

Considering the investment we made in expanding our depositary bank business and helping our clients manage the transition to AIFMD, we, and the industry at large, now have a wealth of experience and an existing depositary infrastructure to draw upon for Ucits V. 


How has the growth of non-bank lenders, or shadow banks, impacted the funds industry?
In the last few years, alternative sources of funding – such as bank debt funds and peer-to-peer lending funds – have emerged and have created greater competition in the lending business. As shadow banking has become an increasingly larger segment of the capital markets, regulators are seeking to address potential risks to financial stability by these less regulated lending activities. As an example, the European Banking Authority is currently consulting on guidelines that aim to introduce rules for calculating exposures limits to shadow banking which could impact the funds industry.

Which asset classes have generated the most inflows this year and are they likely to continue their ascent?
We are seeing a great deal of activity into hybrid funds; there is an increased inflow to bank debt and real asset funds and, based on client feedback, this momentum is poised to continue.


Which topic will generate the most heated discussion?
MiFID II will be heavily discussed. It represents one of the largest pieces of regulation that the industry has to deal with. Many actors have not yet started measuring the impact that it will have on them. This regulation may potentially change the landscape of distribution, notably with the potential retrocession commission ban, and new increased responsibilities for manufacturers in terms of distribution oversight related to product governance. At the moment, it appears to me that the industry is seeking for new, alternative ways to handle this particular issue.

What are the implications of big data for the future of asset management? 
Big data is a concept not currently explored by the fund industry. Not only should we think about ways to use big data on the distribution side, but we should also look how actors active in this space have dealt with data collection. Indeed, they have not approached the challenges by defining standards in the collection process, but have mainly focused on how to use the content of the data. For an industry that still very much relies on the concept of a ‘golden source’, I believe that one can explore new ways by using the available technology differently.


What impact do you think MiFID II will have on the funds industry and what lessons have been learned from RDR in the UK?
MiFID enhances competition in the provisions of investment services, strengthens market integrity and market transparency. MiFID II extends the transparency regime from equities to all financial instruments and will impose new safeguards for algorithmic and high-frequency trading activity. Finally, there will be stricter requirements for portfolio management, investment advice and other investor protections. 

With the introduction of the Retail Distribution Review in the UK and financial regulators increasingly monitoring fund processing and asset protection, wealth managers are under increasing pressure to appoint best-in-class fund processing and custody to manage their clients’ fund assets. Following the introduction of RDR, wealth managers were therefore pushing for higher levels of automation across the fund processing cycle. 

What will be the most heated subject of debate?
The objective of the European Central Bank (ECB) to extend the scope of Target2-Securities (T2S) to cover the settlement of international mutual fund transactions, should generate discussions. Already today, large volumes of international funds are settling on a centralised basis in domestic central securities depositaries, for example in France and Germany. 

Once T2S is in place, banks will be able to settle securities transactions in central bank money through their domestic connections to T2S, and it would be surprising if that did not whet their appetite for settling mutual fund transactions in the same way. Fund managers and their transfer agents will have to adapt to the fact that for banks active in Europe, the settlement of fund transactions in CSDs and in central rather than commercial bank money is the norm. That means they will have to make more of their funds eligible for settlement in T2S and find a way to settle transactions in those funds within T2S.


How far has the impact of RDR in the UK given the European funds industry a taste of MiFID II?
RDR has been a good indicator of MiFID II in respect to the identification of trailer fees, the ban on commissions and a possible future model for the continuation of independent financial advisers across the Continent.

There are, however, elements of RDR that mean in some instances it is stricter and more definite than MiFID II. Likewise, MiFID II examines areas beyond commissions and inducements, which are not covered by RDR, such as appropriateness tests when dealing with complex financial instruments such as structured Ucits, market structure and transparency requirements. 

What are the most important aspects of Ucits V?
For service providers, depositary liability is a very important aspect; for asset managers, the requirements over remuneration and sanctions will be a preoccupation for many. Perhaps the most important aspect for everyone involved is not to underestimate the scope of the directive or the potential challenges it represents when it comes to successful implementation and then life post-implementation. 

The experience with AIFMD is in many ways a sound starting point for asset managers. However, there are many areas that were not examined under AIFMD that need to be considered. The volume of work involved in repapering legal agreements between asset managers, custodians and sub-custodians should not be underestimated, as it is set to be significantly greater than with AIFMD. Post implementation, the ongoing requirements of cash monitoring and oversight duties are likely to cause a re-examination of cost bases. If managers have not yet begun to get to grips with Ucits V, then they had best hurry up and do so.


What needs to be done to ensure Luxembourg maintains its position as a key hub for the funds industry in the long term?
Luxembourg must remain proactive in anticipating change, ensuring promoters have a legislative framework adapted to their needs. With no massive regulatory measures on the horizon and only a few left to assimilate (Ucits V, MiFID II and money market fund reforms), Luxembourg can again focus on innovation, promoting the Luxembourg ‘AIF brand’, reducing the costs associated with fund distribution and seeking to increase market share in countries outside of the EU such as Australia, China and the growing economies of Latin America. 

Which topic(s) do you think will be the most hotly debated at the event?
Fostering a customer-centric funds industry is the Fund Forum’s main theme, but the hotly debated topics will be disintermediation and technology’s impact on distribution, financial advice, encouraging millennials to save and, finally, the fund industry’s growing role in the retirement savings market.

What impact has AIFMD had on the funds industry?
The tighter regulatory framework has increased investor appetite for alternatives and many promoters are seizing the opportunity to launch new AIFs [alternative investment funds] or are ‘onshoring’ funds to Luxembourg from exotic jurisdictions. AIFMD has, however, assigned responsibilities to the depositary which are new to the alternative space, and service pricing must therefore take into account the more complex operational/reporting aspects and incorporate a premium for the substantial liabilities the depositary must now take on.


What impact has AIFMD had on the funds industry?
The asset management industry and its providers have successfully managed their AIFMD compliance, which has paved most of the road for Ucits V compliance to become a simple formality. Some AIFs have been changed to Ucits to avoid the AIFMD, while some Ucits have opted to become AIFs to benefit from it, with many vehicles coming onshore to become marketable throughout the EEA.  

In addition, there are many different types of investment schemes that now require a depositary. Overall, few asset managers have decided to stay below the threshold and some have taken the opportunity provided by AIFMD to change their head office location. Furthermore, the market has seen innovative initiatives such as the launch of unregulated funds, which are exempt from AIFMD rules, and the requirement of a depositary.

How has the growth of non-bank lenders (shadow banks) impacted the funds industry?
The securitisation engine is beginning to pick up speed. Whether external or intra-group schemes, almost all of them are using regulated funds rather than SPVs [special purpose vehicles] as holding vehicles.

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