European Union: Funds Quarterly Legal And Regulatory Update: 1 January 2014 – 31 March 2014


(i) Political Agreement on UCITS V

On 25 February 2014, the European Commission published a press release announcing that the European Parliament and Council of the EU had backed its proposals on UCITS V. This agreement enables the proposed UCITS V Directive to be adopted by the European Parliament at first reading and before it adjourns for the European Parliament elections at the end of May.

The following are the key elements of the agreement reached by the co-legislators:

  • Remuneration policies for all risk takers involved in managing UCITS funds so that remuneration practises do not encourage excessive risk-taking and instead promote sound and effective risk management and enhanced transparency of remuneration practices. The UCITS V remuneration policy provisions are similar to those in the Alternative Investment Funds Directive ("AIFMD");
  • Depositary liability has been strengthened and a list of entities that are eligible to act as a UCITS depositary has been set out;
  • UCITS assets will be protected in the event of the insolvency of the depositary through clear segregation rules and safeguards provided by Member States' insolvency law; and
  • The existing UCITS regime has been strengthened in order to ensure effective and harmonised administrative sanctions. The use of criminal sanctions is framed so as to ensure the cooperation between authorities and the transparency of sanctions.

It should be noted that the remuneration policy requirements may cause issues for UCITS delegates if extended to such entities (in particular non-EU investment managers) as there is a requirement to pay at least 50% of the variable part of a UCITS fund manager's remuneration in shares in the UCITS it manages (unless management of the UCITS accounts for less than half of the total portfolio managed by the UCITS manager). In addition at least 40% of the variable remuneration must be deferred for at least three years and this increases to at least 60% where the variable remuneration is extraordinarily high.

UCITS V must now be formally adopted by the European Parliament and the Council of the EU. The European Parliament is due to adopt the proposed directive during its 15-16 April 2014 plenary session and the Council of the EU has confirmed that should the European Parliament adopt its position at first reading, the Council of the EU would approve the Parliament's position.

Under the agreed text, Member States will have 18 months to transpose the UCITS V Directive into national law, and depositaries will be given an additional 24 month transition period after the transposition deadline.

ESMA is due to publish guidelines on the scope of UCITS V within the next six months, including guidelines regarding identified staff which the remuneration rules will apply to.

The agreed UCITS V text may be viewed via the following link:

(ii) The Central Bank Issues Consultation Paper on the new UCITS Rulebook

On 2 January 2014, the Central Bank of Ireland (the "Central Bank") issued Consultation Paper (CP 77) on the publication of a new UCITS Rulebook which it is intended will replace the Central Bank's existing UCITS Notices and Guidance Notes. The single consolidated Rulebook is intended to facilitate greater clarity on UCITS requirements and avoid repetition or paraphrasing of the related legislative provisions, and will distinguish between rules and guidance.

It is proposed that the UCITS Rulebook will contain all of the conditions that the Central Bank imposes on UCITS funds, their management companies and depositaries in addition to the requirements of the S.I. No. 352/2011 – European Communities (Undertakings for Collective Investment in Transferable Securities) Regulations 2011 (the "UCITS Regulations").

The Central Bank has specifically sought stakeholders' views on the following key proposals:

  • Removal of the Promoter Requirement

    The Central Bank is proposing to remove the requirement that all UCITS applications be supported by an approved fund promoter with a minimum capital of €635,000. The Central Bank proposes to instead rely on the regulatory regime for UCITS management companies/self-managed investment companies. This proposal would bring the UCITS regime in line with the approach taken with regard to Alternative Investment Funds ("AIFs") under AIFMD which are authorised and supervised by the Central Bank.
  • Changes to approach on Regulated Markets

    The Central Bank also proposes to withdraw its Guidance Note which sets out the criteria for a "regulated market" under the UCITS Regulations (UCITS Guidance Note 1/96) due to the overlap between the Guidance Note and Commission Directive 2007/116/EC on eligible assets.

    The new approach proposed in CP 77 will mean that the Central Bank will no longer review submissions on proposed regulated markets and will no longer publish a list of permitted markets for UCITS. UCITS and their depositaries will need to exercise their own judgement as to whether a particular market or exchange meets the criteria for being a "regulated market".
  • Half Yearly Financial Accounts

    The Central Bank is also proposing to require UCITS management companies (including self-managed investment companies) and depositaries to submit unaudited half yearly financial accounts covering the second six months of the financial year. This requirement would be in addition to the current requirement to publish such accounts covering the first six months of the financial year and audited annual accounts.

The deadline for submissions in response to CP 77 was 28 March 2014. It is expected that the new Rulebook will come into effect later this year.

(iii) Central Bank's Implementation of ESMA Guidelines on ETFs & UCITS Issues

On 23 January 2014, the Central Bank published a memorandum of understanding ("MoU") concerning the implementation of ESMA Guidelines for Competent Authorities and UCITS Management Companies: Guidelines on ETFs and Other UCITS issues (the "Guidelines"). The MoU states a UCITS money market fund, authorised before 18 February 2013 may delay its compliance with paragraph 43(e) of the Guidelines until such time as ESMA has concluded its consultation and issued its feedback on a proposed amendment to the Guidelines which would revise the rules for the diversification of collateral received by UCITS money market funds in the context of efficient portfolio management techniques and OTC transactions. In this regard, ESMA issued its Final Report on 24 March 2014, further details of which are set out in paragraph (xiii) of this Part.

In accordance with Guideline 35(d), the Central Bank's UCITS Notice 8 requires the annual reports of UCITS to include disclosure of "the revenues arising from efficient portfolio management techniques for the entire reporting period together with the direct and indirect operational costs and the fees incurred". The Central Bank considers it to be a reasonable interpretation of the reference to "revenue" – subject to any clarification by ESMA – that it is applicable only to revenue from securities lending and repurchase/reverse repurchase arrangements. Accordingly, this disclosure requirement would not apply to other forms of efficient portfolio management ("EPM"), such as derivatives.

The Central Bank's MoU regarding the implementation of the Guidelines is available at the following link:

(iv) Central Bank publishes UCITS Questions and Answers ("Q&A") – 1st edition

On 4 February 2014, the Central Bank published the first edition of a UCITS Q&A. The document sets out answers to queries deemed likely to arise in relation to UCITS and is intended to assist in limiting uncertainty. It will be updated from time to time by the Central Bank.

The Q&A includes sections entitled "Investments in open-ended non-UCITS investment funds" and "Implementation of the ESMA Guidelines on ETFs and others UCITS issues".

The following are the questions answered by the Central Bank in the Q&A:

  • Who determines if a non-UCITS investment fund is an eligible investment?
  • Must the non-UCITS investment fund include conforming provisions in its constitutional document in order to be eligible for investment by a UCITS or is it sufficient for the non- UCITS investment fund to operate in practice in a manner which complies with the requirements of Regulation 68(1)(e) of the UCITS Regulations?
  • Guidance Note 2/03 on 'UCITS – Acceptable investments in other collective investment undertakings' lists categories of non-UCITS investment funds which are eligible for investment by UCITS. This list includes non-UCITS investment funds authorised in the US and which comply, in all material respects, with the provisions of the UCITS Notices. What category of US investment funds is being referred to?
  • Does the ESMA opinion on Article 50(2)(a) of Directive 2009/65/EC (Ref. 2012/721 of 20 November 2012) relate only to investments by UCITS in open-ended non-UCITS investment funds?
  • Can units in an open-ended investment fund which meet the transferable securities criteria be treated as transferable securities?
  • What does a UCITS need to do if it wishes to invest in a non-UCITS investment fund?
  • When does a UCITS money market fund have to comply with paragraph 43(e) of the ESMA Guidelines on ETFs and other UCITS issues?
  • Is the reference to "revenue" in Guideline 35(d) of the ESMA Guidelines on ETFs and other UCITS issues applicable only to revenue from securities lending arrangements and repurchase/reverse repurchase agreements?

The complete document is available at the following link:

(v) Distribution of Irish Domiciled UCITS Funds in Chile

The Irish Funds Industry Association's ("IFIA") Chilean Counsel has informed the IFIA that where an Irish domiciled UCITS fund makes an application for approval in Chile, the application will not be rejected on the basis of its Irish domicile. Although this change has not been officially communicated by the Chilean authorities, the IFIA understands that this change is now in effect. This change allows managers of Irish funds to proceed with applications under the normal conditions and procedures which exist in Chile.

This change marks a re-opening of access for Irish funds to this important South American market. It also supports the managers of Irish domiciled UCITS funds in their drive for international distribution.

Dillon Eustace can support fund managers who are interested in accessing the Chilean and other international markets.

(vi) Non-voting Shares/Units in UCITS

Historically the Central Bank has allowed CCFs to issue non-voting units as this was deemed by industry to be one of the necessary characteristics of CCFs. The Central Bank has now indicated that it will allow other UCITS legal structures to issue non-voting shares/units subject to the following requirements:

  • The rationale must be fully explained upon making an application;
  • Investors must make the choice to invest in the restricted class and have the option to switch to a class with voting rights without incurring a charge;
  • It must be confirmed that the proposal complies with company law / trust law;
  • There must be full disclosure in the prospectus and the M&A / trust deed that the decision to invest in the restricted class is made by the investors; and
  • The application must set out how the investors' interests are safeguarded.

(vii) Central Bank Letter Regarding Irish UCITS Management Company Managing Non-Irish UCITS

The Central Bank has written to industry to specify that where an Irish UCITS management company is appointed to a non-Irish UCITS fund and there is a proposal to delegate some of its functions relating to the non-Irish UCITS fund to a non-Irish depositary, the Central Bank will seek a confirmation from the home regulator of the respective UCITS that these arrangements comply with local regulatory requirements.

Moreover, the Central Bank has advised that it will consider these proposals on a case by case basis, in order to ensure that adequate arrangements are in place to ensure the separation of functions and to manage conflicts of interest.

(viii) EFAMA Creates a Performance Fee Working Group

In response to the topic of Performance Fees being raised by policy makers as a potential initiative for inclusion in UCITS VI, the European Fund and Asset Management Association ("EFAMA") has created a Performance Fee Working Group in order to form an industry agreed position in advance of policy makers publishing a proposal in this area.

(ix) Central Bank Clarification Regarding UCITS Management Companies Receiving Fees for Securities Lending

The Central Bank has provided Dillon Eustace with some clarification in respect of UCITS Management Companies and whether or not they can continue to receive a fee in relation to a securities lending arrangement post 18 February 2014. The ESMA Guidelines on ETFs and Other UCITS Issues (the "Guidelines") provide that only direct and indirect operational costs and fees arising from efficient portfolio management techniques (such as securities lending) may be deducted from the revenue delivered to the UCITS. UCITS Notice 12.7 was also revised to reflect this.

When queried as to whether UCITS Management Companies may continue to take a fee out of revenue generated from a securities lending programme after 18 February 2014 (the date from which the Guidelines apply), the Central Bank clarified that although the Guidelines do not specifically prohibit a UCITS Management Company from receiving such a fee, a UCITS Management Company, where it proposes taking such a fee, must ensure it adheres to the relevant provisions of the UCITS legislation including:

  • Acting honestly and fairly in conducting its business activities in the best interests of the UCITS;
  • Monitoring effectively at all times the activity of the undertaking to which a mandate is given;
  • Acting in such a way as to prevent undue costs being charged to the UCITS; and
  • Ensuring that the general investment policy, the investment strategies and the risk limits of the UCITS are properly and effectively implemented and complied with.

(x) Investment Entities (Amendments to IFRS 10, IFRS 12 and IAS 27)

On 21 November 2013, Commission Regulation (EC) No 1174/2013 of 20 November 2013 was published in the Official Journal of the European Union. This regulation adopts the amendments entitled Investment Entities (Amendments to IFRS 10, IFRS 12 and IAS 27) (the "Amendments") made by the International Accounting Standards Board ("IASB") in October 2012. The amendments were given an effective date of 1 January 2014.

The Amendments provide an exemption to the consolidation requirements in IFRS 10 and require investment entities to measure particular subsidiaries at fair value through profit or loss rather than consolidate them. New disclosure requirements for investment entities are also provided in IFRS 12 and IAS 27. An investment entity is an entity whose business purpose is to invest funds solely for returns from capital appreciation, investment income or both and also evaluates the performance of these investments on a fair value basis.

(xi) EFAMA Publishes Quarterly Statistical Release Showing 2013 Fund Results

On 3 March 2014, EFAMA published a report on "Trends in the European Investment Fund Industry in the Fourth Quarter of 2013 and Results for the Full Year 2013". The report displays how the European investment fund industry enjoyed a second consecutive year of strong growth in 2013. The report highlights that:

  • Net sales of UCITS reached EUR 229 billion: demand for UCITS reached its highest level since 2006 and surpassed the net sales of EUR 196 billion registered in 2012;
  • Sales of non-UCITS reached EUR 181 billion: net sales of non-UCITS increased in 2013, up from EUR 114 billion in 2012; and
  • Money market funds suffered from increased net outflows: money market funds recorded net outflows of EUR 84 billion, marking a significant increase compared to 2012 when net outflows amounted to EUR 37 billion. Low short-term interest rates remained a challenge for the money market funds industry in 2013.

The report displays trends in the UCITS market, based on:

  • Net sales by investment type;
  • Net assets by investment type;
  • Net sales by country of domiciliation; and
  • Net assets by country of domiciliation.

The report also details trends in the non-UCITS market based on:

  • Net sales and assets by investment type; and
  • Net assets by country of domiciliation.

The report may be accessed via the following link:

(xii) ESMA Publishes Updated Q&A on their Guidelines on ETFs and other UCITS issues

On 24 March 2014, ESMA published an updated Q&A document on its Guidelines on ETFs and other UCITS issues ("Q&A").

The aim of this Q&A is to promote common supervisory approaches and practices in the application of the UCITS Directive and the Guidelines on ETFs and other UCITS issues (the "Guidelines"). The updated Q&A provides clarity in respect of two aspects of Financial Indices (Section XIII of the Guidelines).

The Q&A is directed at the various competent authorities ("NCAs") but it is also intended to help UCITS management companies by providing clarity on the requirements of the Guidelines. Two new questions have been added to the updated Q&A:

Question 7j: According to paragraph 55 of the guidelines, UCITS should not invest in financial indices for which the full calculation methodology to, inter alia, enable investors to replicate the financial index, is not disclosed by the index provider. Such information should be easily accessible, free of charge. What is meant by disclosed, easily accessible and free of charge in the context of the guidelines?

Answer 7j: The information to be disclosed and provided must be publicly available to investors and prospective investors, and published in such a way that direct access to this information is possible. Such information may be so accessed, for example, as a direct publication or via a source which directly links to a public website or other public forum which is not password protected, encrypted or in any way hinders or impedes immediate and direct access.

Question 7k: Paragraph 50 of the guidelines prohibits investment by UCITS in commodity indices that do not consist of different commodities and applies a correlation factor to be considered in this regard. Can UCITS invest in a commodity index for which a particular commodity component does not have 5 years of price history available for the purposes of the correlation observation?

Answer 7k: Yes, provided that a similar asset serves as an adequate proxy. The basis for such an asset being considered as an adequate proxy needs to be supported by both qualitative and quantitative data. Those qualitative and quantitative data should be documented by UCITS management companies. The proxy asset cannot constitute more than 3 years of the 5 years of data for the purposes of the calculation. The proxy must be a single commodity (rather than a component of a basket or other amalgam/hybrid product) asset, however, this asset could include a financial index which complies with section XIII of the guidelines.

The Q&A may be accessed via the following link:

A Dillon Eustace Update on the Q&A may be accessed via the following link:

(xiii) ESMA Publishes Final Report on Revising Provisions on Diversification of Collateral in ESMA's Guidelines on ETFs and Other UCITS Issues

On 24 March 2014, ESMA published its Final Report on revising provisions on diversification of collateral in its Guidelines on ETFs and Other UCITS Issues (the "Final Report"). The Final Report sets out ESMA's updated position on collateral management by UCITS and follows a consultation which was conducted in December 2013 on this topic. In this regard, ESMA had been asked by stakeholders on numerous occasions to reconsider its position on the requirements of collateral diversification (paragraph 43(e) of the Guidelines on ETFs and Other UCITS Issues (the "Guidelines") on the basis that they have a significant adverse impact on UCITS's collateral management policies. The Final Report seeks to modify the rules on collateral diversification which are set out in paragraph 43(e) of the Guidelines.

Paragraph 43(e) of the Guidelines states that no more than 20% of a UCITS fund's net asset value may be received in collateral exposed to any one issuer. However, in a very welcome development, ESMA has decided to revise the diversification rule and will now allow all UCITS to receive collateral in the form of transferable securities or money market instruments issued or guaranteed by a Member State, one or more of its local authorities, third countries or certain public international bodies without being restricted to the issuer limit of 20% of net asset value.

In order to avail of the new rules, a UCITS must receive securities from at least six different issues and no one issue should account for more than 30% of the UCITS fund's NAV. In addition, the new rules will be subject to additional disclosures in the Prospectus and in the Annual Report. The disclosure rules will be subject to a transitional period before they will apply to existing UCITS. The Prospectus disclosures will apply from 12 months from the application date of the new guidelines or earlier if the Prospectus is being updated for any other reason. The Annual Report disclosures will only apply to accounting periods that end after the application of the new guidelines. In other words, the disclosure requirements will not apply in respect of any accounting period that has ended before the application date of the new guidelines.

The new guidelines will apply two months after the publication of its translation into the official EU languages on the ESMA website. The publication of the translations will trigger a two month period during which NCAs must notify ESMA whether they comply or intend to comply with the guidelines.

The Final Report may be viewed via the following link;

(xiv) Central Bank Introduces New Resident Money Market and Investment Funds ("MMIF") Quarterly Return

The Central Bank has introduced a Resident Money Market and Investment Funds Return ("MMIF") for Fund Administrators. The MMIF return is set to replace the OFI1 and Funds Annual Survey of Liabilities returns from April 2014.

The MMIF fulfils the requirements prescribed under the following pieces of legislation:

  • Draft Regulation on investment funds (replacing ECB Regulation No. 958/2007 (ECB/2007/08));
  • Draft Regulation covering MMFs (replacing ECB Regulation No. 25/2009 (ECB/2008/32)); and
  • ECB balance of payments requirements, as set out under Guideline ECB/2011/23.

We have been advised by the Central Bank that MMIF data will be reported under the Central Bank (Supervision and Enforcement) Act 2013 and that the MMIF will reduce significantly the need for future ad-hoc surveys or new reporting requirements.

From Q4 2014, the Central Bank plan to replace current reporting with monthly MMIF reporting and to abolish the monthly MMF and quarterly MMQ form.

For further information on the MMIF, please see the following link to the Central Bank's Economic Policy and Statistics page:

(xv) UCITS Investment in Loans

The Central Bank has recently advised that:

  1. Any investment by UCITS in securitised loans is subject to a 10% unlisted limit; and
  2. Any investment in unsecuritised loans is also subject to the 10% limit and unsecuritised loans must also be demonstrated to be a form of money market instrument.

This is position is related to ESMA's Opinion on Article 50(2)(a) of the UCITS Directive (2009/65/EC) of 20 November 2012. The Opinion may be viewed via the following link:

(xvi) Central Bank Releases Q4 2013 Data on Investment Funds in Ireland

On 25 March 2014, the Central Bank issued an Information Release entitled "Central Bank Data on Investment Funds in Q4 2013". The Information Release provides that "the underlying trend of strong growth in the Irish fund industry was evident again in Q4 2013, with net asset values rising to €1,070 billion from €1,041 billion in Q3. Significantly, net investor inflows to funds accounted for around half of this increase, while equity prices drove positive revaluations".

The Information Release may be viewed via the following link:

(xvii) ESMA Opinion on Good Practices for Structured Retail Product Governance

On 27 March 2014, ESMA published an Opinion entitled "Structured Retail Products - Good Practices for Product Governance Arrangements".

Structured retail products ("SRPs") are defined as compound financial instruments that have the characteristic of combining a base instrument (such as a note, fund or deposit) with an embedded derivative(s) that provides economic exposure to reference assets, indices or portfolios. In this form, they provide investors, at predetermined times, with pay-offs that are linked to the performance of reference assets, indices or other economic values.

The Opinion contains a broad set of non-exhaustive examples of good practices illustrating arrangements that firms, taking into account the nature, scale and complexity of their business, could put in place to improve their ability to deliver on investor protection regarding, in particular, (i) the complexity of the SRPs they manufacture or distribute, (ii) the nature and range of the investment services and activities undertaken in the course of that business, and (iii) the type of investors they target ("Good Practises").

The Good Practices are also designed as a helpful tool for NCAs in carrying out their supervisory action. In addition, ESMA considers that the Good Practises may be a relevant reference for other types of financial instruments (such as asset-backed securities, or contingent convertible bonds), as well as when financial instruments are being sold to professional clients.

The Good Practices cover the following areas:

  • General organisation of product governance arrangements;
  • Product design and testing;
  • Target market and distribution strategy;
  • Value at the date of issuance and transparency of costs;
  • Secondary market and redemption; and
  • Review process.

You will find the Opinion via the following link:

To read this Update in full, please click here.

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.

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