The introduction of UCITS III paved the way for UCITS to pursue alternative type investment strategies such as long/short, market neutral, CTA and managed futures funds and relative value strategies to name but a few. Following the implementation of UCITS III in 2002, the Committee of European Securities Regulators (CESR) (now the European Securities and Markets Authority (ESMA)) clarified the range of eligible assets for UCITS and domestic regulators, including the Irish Central Bank of Ireland, have recognised the increased investment scope of UCITS.
These developments, in combination with the adoption of UCITS IV in 2009, have provided for the introduction of a range of complex, alternative type strategies by UCITS in recent years and in particular the use of a long-short equity strategies.
Although not permitted to take direct uncovered short positions, a UCITS can pursue a long/short equityinvestment strategy and achieve short exposure synthetically through the use of financial derivative instruments ("FDIs"). Global exposure, understood as leverage, and counterparty exposure restrictions apply to synthetic short positions, as discussed further below.
The example below illustrates a UCITS long/short equitites fund. In the diagram, the UCITS manages both long book and short book. The long book is comprised of equities or equity related securities that are used to generate investment returns for the long assets held by the UCITS. The short book is comprised of a combination of cash/liquid instruments and FDIs which take short economic exposure to underlying reference assets such as a financial index, basket of securities or individual stocks. The cash/liquid element is used as cover or collateral for the UCITS derivative positions, as required by UCITS IV risk management purposes. The FDIs themselves provide the desired exposure to returns linked to the performance of underlying reference assets for example individual stocks. Swaps, options, stock futures and contracts for difference (CFDs) are typically used for this purpose.
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