The European Securities and Markets Authority ("ESMA") published a discussion paper on UCITS share classes on 23 December, 2014 (the "Discussion Paper") setting out its views on:
- what constitutes a UCITS share class;
- how UCITS share classes should be distinguished from sub- funds of UCITS; and
- suggested approaches to share class differentiation.
ESMA stated that it published the Discussion Paper due to what it says are "diverging practices" across Member States regarding whether, and to what extent, share classes within a given UCITS or their sub-funds can vary from one another. ESMA says that it wishes to develop a common understanding as to what should be deemed to constitute a UCITS share class and to what degree share classes should be capable of differentiation.
We urge promoters of multi-class UCITS products to consider this Discussion Paper. For many, this Paper may not raise any concerns but for others it may suggest approaches not consistent with what has, to date, been allowed by home state competent authorities.
The full text of ESMA's Discussion Paper may be accessed here: Link
ESMA's main concern seems to be that share classes established within a UCITS should have the same investment strategy. It believes that, where a UCITS is seeking to allow investors to avail of different investment strategies within a UCITS, a separate UCITS or sub-fund should be established in which the strategy is offered, rather than a new share class being put in place for this purpose.
Permissible Differentiations at Share Class Level
We have set out below what ESMA, as per the Discussion Paper, considers as permissible differentiations at share class level, namely share classes that differ;
(i) according to the maximum or minimum investment amounts, or values of holdings allowed to
(ii) in terms of the type of investor (e.g. institutional investors vs. retail investors);
(iii) according to the types of charges and fees that may be levied and their amount (on-going charges, subscription and redemption fees, performance-related fee);
(iv) according to the currency in which they are denominated;
(v) according to the allocation of revenues to investors (by capitalisation or distribution, either subject to or exempt from withholding tax);
(vi) according to their characteristics: registered or bearer;
(vii) in terms of voting rights; and
(viii) share classes that provide currency hedging when share classes are denominated in different currencies from the base currency.
With regard to hedged currency share classes, ESMA is of the view that currency hedging at the level of a share class can be considered compatible with the principle of a common investment strategy provided that the currency hedging does not adversely impact on the shareholders of the other share classes and that the costs of the hedging are borne only by the shareholders of the hedged share class.
Impermissible Differentiations at Share Class Level
ESMA goes on to provide that it would not consider the following differentiations at share class level as being permissible, namely share classes that:
(i) are exposed to different pools of underlying assets (giving the example of UCITS that offers two share classes, one tracking the Eurostoxx and one tracking the S&P 500);
(ii) swap the underlying portfolio against different portfolios of assets (i.e. the final exposures of the share classes are different);
(iii) offer differing degrees of protection against some market risks such as interest rate risk or volatility risk;
(iv) are exposed to the same pool of assets but with different level of capital protection and/or payoff (giving the example of a UCITS which offers two share classes where one share class protects 80% of the initial NAV and delivers 100% of the performance of an index after a fixed term (5 years) and the other share class protects 100% of the initial NAV and delivers 50% of the performance of the same index after the same 5 year term); or
(v) differ in terms of leverage.
ESMA makes specific reference to where interest rate hedging is performed at share class level. It feels that this does not comply with the central theme identified in the Discussion Paper, namely that share classes should have the same investment strategy, because in ESMA's view it modifies the investment strategy of the share class.
The Discussion Paper sets out fourteen questions for stakeholders to consider in light of ESMA's views on this topic, as noted above, with the deadline for responses being 27 March, 2015.
Dillon Eustace will be providing responses to ESMA ahead of this deadline and should you wish to provide any comments on the Discussion Paper to ESMA we would be happy to incorporate them into our submission.
Please forward any thoughts to your usual contact here at Dillon Eustace.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.