(i) ESMA opinion on the impact of EMIR on UCITS
Directive 2009/65/EC (the "UCITS Directive") requires UCITS investing in over-the-counter ("OTC") derivative transaction to adhere to counterparty exposure limits (in general 5% of net asset or 10% of net asset when the counterparty is a credit institution). Regulation 648/2012 on OTC derivatives, central counterparties ("CCPs") and trade repositories ("TR") (the "EMIR Regulations"), which was issued subsequent to the UCITS Directive, requires certain OTC derivative transactions be subject to clearing obligations. The question therefore arose as to how the EMIR Regulations would interact with the UCITS Directive? In particular, how the counterparty exposure limits for OTC derivative transactions which are centrally cleared (in accordance with the EMIR Regulations) should be calculated for the purpose of the UCITS Directive? On 22 July 2014, as a first step to addressing this matter, the European Securities and Markets Authority ("ESMA") issued a discussion paper (ESMA/2014/876) entitled, "Calculation of counterparty risk by UCITS for OTC financial Derivative transactions subject to clearing obligation" (the "Discussion Paper").
Following on from its Discussion Paper, on 22 May 2015 ESMA issued its Feedback Statement and Opinion (2015/ESMA/880) (the "Opinion"). In the Opinion, ESMA confirms that in its view, there is a conflict between the operation of the EMIR Regulations and the requirements of the UCITS Directive in relation to OTC financial derivative transactions. ESMA's Opinion therefore recommends that the UCITS Directive be amended to take account of the clearing obligations for certain types of OTC transactions required by the EMIR Regulations. ESMA submitted the opinion to the European Commission, European Council and European Parliament.
ESMA suggest that the UCITS Directive should no longer distinguish between OTC derivatives and Exchange Traded Derivatives ("ETDs"). Instead, ESMA is of the view that a distinction should be drawn between cleared and non-cleared derivatives/transactions.
As a result, the counterparty limits imposed by Article 51 of the UCITS Directive would apply to both ETDs and cleared OTC derivatives. At present only investments in OTC derivatives are subject to counterparty risk exposure limits under the UCITS Directive. However, different counterparty exposure limits would apply depending on the circumstances as outlined below.
For non-cleared derivative transactions (i.e. non-cleared OTC transactions), ESMA recommends that the existing 5/10% counterparty exposure limits should remain in place.
In respect of cleared derivative transactions, ESMA suggests that different counterparty exposure limits should be applied.
ESMA suggest that EU CCPs and Non-EU CCPs which are recognised by ESMA should be deemed to have a low risk.
Consequently, a UCITS should be permitted to have a high exposure limit to such CCPs. The Opinion does not clarify what "high limit" means in terms of an actual quantitative exposure limit.
In contrast, ESMA suggests that counterparty exposure limits to Non-EU CCPs which are not recognised by ESMA should be deemed to be higher risk. Consequently, the exposure limit of a UCITS to such CCPs should be lower (again, the Opinion provides no clarification what "lower" would mean in terms of an actual quantitative limit).
EMSA also indicates that in its view, separate counterparty exposure limits may need to be applied to CCPs and a CCP's clearing members.
The counterparty exposure limits to be applied by a UCITS to clearing members of EU CCPs and Non-EU CCPs recognised by ESMA should be determined based upon the type of account (i.e. individual client account or omnibus client account) which the UCITS has in place with the relevant CCP. In the case of an individual client account, it would not be necessary to have a separate (i.e. in addition to the exposure limit to the CCP) exposure limit to the clearing member. However, if the account is an omnibus client account, ESMA is of the view that a UCITS should be required to apply a counterparty exposure limit to the clearing member (in addition to the limit to the CCP). Again, the Opinion does not propose any particular limits in this regard.
Although ESMA has now issued an opinion on this matter calling for a modification of the UCITS Directive, it is still unclear as to when we may expect such modification to occur. This is because it would require an amendment to the Directive (which would have to go through the normal legislative process) and also because the Opinion itself is vague on the proposed levels of counterparty exposure which ESMA is suggesting would be appropriate to different circumstances (simply referring to high and low levels).
(ii) Central Bank Updates its Q&A on UCITS
On 12 June 2015, the Central Bank published a Fifth Edition of its UCITS Questions and Answers ("Q&A") document. The previous edition was published on 17 December 2014.
The aim of the UCITS Q&A is to outline answers to queries likely to arise in relation to UCITS. It is published in order to assist in limiting uncertainty. It is not relevant to assessing compliance with regulatory requirements.
The latest update sees the addition of a new question (Question ID 1013) which deals with Re-domiciliations:
Can an investment fund which re-domiciles to Ireland as a UCITS be permitted to disclose its past performance in its Key Investor Information Document ("KIID") relating to the period when it was domiciled outside Ireland?
The Central Bank will permit this past performance to be disclosed where the UCITS management company confirms that:
- the UCITS investment policy, strategy and portfolio composition have not been substantially altered as a consequence of the transfer to the UCITS regime;
- there is no change to the entities involved in the investment management of the UCITS;
- it is satisfied that the past performance data is accurate; and
- appropriate disclosure will be included with the past performance in the KIID stating that the data relates to a period when the investment fund was domiciled outside Ireland and was not authorised as a UCITS.
The updated Q&A is available via the following link:
(iii) EFAMA publish its latest Investment Funds Industry Fact Sheet
On 16 April 2015, the European Fund and Asset Management Association ("EFAMA") published its latest Investment Funds Industry Fact Sheet (the "Fact Sheet"), which provides net sales of UCITS and non-UCITS for April 2015.
Twenty-seven associations representing more than 99.6% of total UCITS and non-UCITS assets at the end of April 2015 provided net sales and/or net assets data. The main developments in April 2015 in the reporting countries can be summarised as follows:
- Net sales of UCITS increased to €83 billion in April, up from €69 billion in March, as all fund categories attracted net new money during the month;
- Long-term UCITS (UCITS excluding money market funds ("MMFs") continued to register large net inflows (€66 billion), albeit lower than in March (€71 billion);
- Bond funds posted reduced net sales of €22 billion compared to €26 billion in March;
- Equity funds experienced a turnaround in net flows to register inflows of €6 billion, against net outflows of €3 billion in March;
- Balanced funds registered net inflows of €29 billion, down from €39 billion in March;
- MMFs registered a turnaround in net sales in March to post net inflows of €16 billion, compared to net outflows of €2 billion in March;
- Total non-UCITS net sales amounted to €16 billion, compared to €18 billion in March. Net sales of special funds (funds reserved to institutional investors) recorded a second consecutive month of net inflows of €12 billion; and
- Total net assets of UCITS stood at €9,036 billion at the end April 2015, representing a 0.4 percent increase during the month. Total net assets of non-UCITS decreased 0.2 percent to stand at €3,541 billion at the month end. Overall, total net assets of the European investment fund industry stood at €12,577 billion at the end of April 2015.
Bernard Delbecque, Director of Economics and Research commented that "Demand for long-term UCITS remained robust in April as the economic outlook for Europe improved following the launch of quantitative easing by the ECB".
The fact sheet can be accessed via the following link:
(iv) UCITS V
In July 2012, the European Commission released a proposal on the revision of the UCITS regime in respect of depositary functions, remuneration policies and sanctions. Directive 2014/91/EU ("UCITS V") came into effect on September 17, 2014, and EU member states are required to transpose UCITS V into their national laws by March 18, 2016.
UCITS V is a further revision to the UCITS regime which aims to bring the UCITS regime into line in certain respects with the Alternative Investment Fund Management Directive ("AIFMD") and introduce a range of corresponding measures which had hitherto been regulated in somewhat less prescriptive terms.
The amendments to the existing UCITS regime aim to address lessons learned from the financial crises, most notably from the Madoff case which highlighted the lack of consistency in the application of the provisions of the UCITS Directive by Member States of the EU.
UCITS V focuses on three main areas namely:
- UCITS depositary's eligibility, functions and liability in circumstances where assets are lost in custody;
- rules governing remuneration policies which UCITS will be obliged to introduce; and
- the harmonisation of the minimum administrative sanctions regime across EU Member States.
In terms of preparation for UCITS V, UCITS and UCITS management companies will need to consider how the forthcoming changes will impact upon their business. In particular such entities will need to consider how the changes will impact on each individual fund's current custody arrangements. In addition, it is likely that a review of the fund prospectus and related documentation, including the business plan, may also be required to take into account the new requirements.
In June 2015, Dillon Eustace published a guide to UCITS in Ireland, which is available via the following link:
(v) Proposed Central Bank UCITS Regulations
The Central Bank proposes publishing Central Bank UCITS Regulations which will consolidate, into one document, all of the conditions which the Central Bank imposes on UCITS, their management companies and depositaries.
It is expected that the Central Bank UCITS Regulations and Guidance Notes will be issued on a statutory basis and will replace the current UCITS Notices in the forthcoming months.
The Central Bank also proposes to eliminate the promoter approval process for UCITS in the same way as it has for alternative investment funds, to coincide with the new UCITS Regulations.
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