Luxembourg has ambitious plans to double the market share of hedge fund servicing. Stefanie Eschenbacher reports.
Even though the number of alternative funds in Luxembourg has increased in recent years, the country is still less well known as an alternative fund centre than for Ucits.
With just 4% of the world’s hedge funds’ assets under management, Luxembourg lags behind other European domiciles, such as Ireland and the Channel Islands.
The Association of the Luxembourg Fund Industry (Alfi) aims to double its market share within the next three years. “While Europe has established Ucits as a global fund brand, we have a long way to go if we are to achieve the same in the alternative fund industry,” says Camille Thommes, the director general.
Thommes says implementing the Alternative Investment Fund Managers (Aifm) directive in an efficient and business-friendly manner is key.
He also acknowledges that Luxembourg has to attract additional specialist talent to extend its alternative investment fund expertise.
Oliver Wyman recently examined where alternative investment funds are domiciled, the reasons behind their choice of domicile, and expected future trends.
The global asset management consultancy says until recently tax and regulation were the main points, but now there is pressure from home market regulators on offshore funds.
“Over time this pressure will induce some alterative funds to domicile onshore,” according to the report, entitled of Alternative Investment Funds Domicile.
“However, contrary to what is frequently claimed, we believe offshore centres will continue to attract a large share of alternative funds for the foreseeable future due to good infrastructure and familiarity, with only a gradual shift onshore.”
Some alternative fund managers, the report concludes, will move onshore for regulatory reasons or perceived investment demand. European onshore funds are predicted to go to Ireland or Luxembourg.
Brian McMahon, business development executive at BNY Mellon in Luxembourg, notes the Grand Duchy has already established the expertise to deal with other hedge fund-like structures.
Those include, for example, funds of hedge funds and “alternative Ucits”. Hedge fund managers are increasingly looking at these alternative Ucits, which allow them to sell hedge fund-like structures within the Ucits wrapper.
There are 700 Ucits-compliant funds that use hedge fund-style strategies, estimates Hedge Fund Research, with assets under management of up to $75 billion (€55.6 billion). About 37% of these are domiciled in Luxembourg.
Thommes highlights that four of the top ten hedge fund managers worldwide, measured by assets under management, have non-Ucits hedge funds or funds of hedge funds domiciled in Luxembourg. Six of these also have alternative Ucits funds domiciled in Luxembourg.
There were just 194 hedge funds domiciled in Luxembourg at the end of June last year, according to Alfi, but 509 funds of hedge funds. This compares with 197 hedge funds and 435 funds of hedge funds in June 2010.
Luxembourg’s success in this market, McMahon says, is down to having the right fundamentals; robust and flexible regulation, qualified service providers, auditors and lawyers.
Régis Veillet, the head of sales and client relationship at Societe Generale Securities Services, says the development of alternative Ucits has also helped to “put Luxembourg on the map for the hedge fund industry. What we have seen, though, is that some of those funds have not been successful,” he says.
“It is not easy to adapt hedge fund strategies to Ucits.”
Sanjiv Sawhney, managing director at Citi, says investors want more scrutiny. “While money has started coming back to hedge funds, this has been restricted to the better names and larger managers,” he says.
While some hedge fund Ucits have done tremendously well, others have been closed down because they did not succeed in raising assets or did not match performance.
“Some may have doubts that the hedge fund manager can replicate its strategy in a Ucits wrapper,” Veillet says. “Investors look at the trade-off between higher protection within the Ucits structure and potentially losing performance because of a more restricted framework.”
With the rise of alternative Ucits, service providers in the industry had to adapt to new requirements, such as independent pricing of over-the-counter derivatives and the administration of collateral.
Rules and regulations
Outside the Ucits framework, hedge funds will have to comply with the Aifm directive, which imposes rigorous and comprehensive rules on alternative fund managers.
The Alternative Investment Management Association said in September last year that the potential impact on depositories, under the most adverse scenario, could cost hedge funds more than $6 billion.
These costs, the trade body said, would be passed on to investors.
A statement read: “The directive could lead to such high costs because depositaries would sharply increase their fees to funds to compensate them for the strict liability they would be expected to absorb for any losses incurred by unaffiliated sub-custodians which the former cannot realistically control.”
Charles River Associates, another consultancy, says alternative fund managers will face “substantial” one-off compliance costs of up to €3.2 billion and ongoing compliance costs of around €311 million.
Increased costs surrounding depository liability, which it was unable to quantify, will be “highly significant”.
©2012 funds europe