UK Asset Management Regulatory Roundup
A compact summary of the most recent regulatory developments relevant to the UK asset management industry. This issue includes details of the FCA’s approach to authorisation; action taken on closet tracking funds; proposed EU legislation on cross-border distribution of funds; and an FSB report on shadow banking.
The FCA’s approach to authorisation
The Financial Conduct Authority (FCA) has published the text of a speech made by its Director, Authorisations, Sarah Rapson, in which she stated that the FCA used authorisation in a proportionate manner and primarily to prevent harm. It is also used to improve conduct standards and culture in firms. She stressed that the FCA does not operate a zero-failure regime as this would be unachievable as well as undesirable since to do so would stifle innovation and competition.
Ms Rapson made the point that the FCA recognises that firms starting up may find it difficult to meet some of the minimum standards for authorisation. She specifically mentioned the difficulty firms may find in having appropriate financial resources before they become authorised. The FCA will consider these situations carefully and may decide to authorise a firm ‘subject to’ a restriction, limitation or requirement that it must meet from the point of authorisation.
The Director encouraged firms to speak to the FCA if they had questions or concerns about completing applications, and that they should apply when they are ready, not just to secure their place in the queue. Apparently the FCA tends to refer to authorisation as ‘the gateway’; Ms Rapson hoped that it would never be considered as ‘the wall’.
FCA publishes a webpage on closet tracking funds
Closet tracking funds look like, and charge similar fees to, actively managed funds that strive to beat a benchmark. However, they are managed in a way that is similar to passively managed funds which track a benchmark and usually charge a much lower fee.
Following the FCA’s asset management market study it investigated 84 funds at the end of last year that were sold as market-beating. Of these it found that 20 were adequately describing how investors’ money was being managed but the FCA is working with 42 of them to improve their management disclosures. Another 22 have already made improvements. It ordered 64 of those 84 funds to improve disclosures as to how investors’ money was being managed and a number agreed to compensate investors as a result.
Cross Border Distribution of Collective Investment Funds
Current European legislation allows the passporting of investment funds across the EU so as to create a single market for investment funds. While this market has grown, it has not yet exploited its full potential in terms of cross-border distribution, with around 70% of total assets under management held by funds registered for sale in their own domestic markets. Only 37% of UCITS and approx. 3% of alternative investment funds are registered for distribution in more than three Member States. The European Commission has therefore published legislative proposals for a regulation on facilitating cross-border distribution of collective investments funds and a directive on the cross-border distribution of collective investment funds. There is also an impact assessment and other related documents.
The proposed regulation improves transparency by aligning national marketing requirements and regulatory fees. It also enables the European Securities and Markets Authority (ESMA) to better monitor the funds.
The proposed directive harmonises the conditions under which investment funds may exit a national market and creates the possibility for managers to stop marketing a fund in defined cases in one or several host Member States. The proposal also allows European asset managers to test the appetite of potential professional investors for new investment strategies through pre-marketing activities.
The European Parliament and the Council of the European Union will now consider the proposals. The Commission has also invited feedback, which is to be made by 10 May 2018
FSB publishes 2017 report on shadow banking
The Financial Stability Board (FSB) published its global shadow banking monitoring report 2017.
The report presents the results of the FSB’s seventh annual monitoring exercise to assess global trends and risks in the shadow banking system. It contains data to the end of 2016 from 29 jurisdictions including, for the first time, China and Luxembourg.
The report compares the size and trends of financial sectors across jurisdictions, based on sector balance sheet data and also focuses on the parts of non-bank credit intermediation that may pose financial stability risks (the "narrow measure of shadow banking" or "narrow measure").
Findings relating to the narrow measure include the following:
- The narrow measure was $45.2 trillion in 2016 for the 29 jurisdictions, increasing by 7.6% compared to 2015 and equivalent to 13% of total global financial assets. Over 75% of the assets included in the narrow measure are located in six jurisdictions.
- Collective investment vehicles (CIVs) with features that make them susceptible to runs increased by 11.0% in 2016, compared to 2015. On average, assets of these CIVs have grown by around 13% a year since the end of 2011. CIVs assets represent 72% of the narrow measure.
- The significant recent growth of CIVs has been accompanied by a higher degree of credit investment and some liquidity and maturity transformation.
- In some jurisdictions, finance companies tend to have relatively high leverage and maturity transformation, which increases their susceptibility to rollover risk during periods of market stress.
- Broker-dealers in some jurisdictions use significant leverage albeit lower than before the financial crisis. These entities might also be vulnerable to rollover risk or runs, particularly if they depend on short-term wholesale funding.
The report includes a set of case studies by groups of experts from national and regional authorities on types of non-bank financial entities and activities.
Future monitoring exercises are due to include potential enhancements to the monitoring of shadow banking activities and the data collection framework. These enhancements were recommended in the FSB's report submitted to the G20 in July 2017.
Investment Association and Dechert publish Global Survey on Payment for Research
The Investment Association (IA) in partnership with Dechert has published Global Survey on Payment for Research, a review of the research payment rules in 33 key global jurisdictions following the implementation of MiFID II on 3 January 2018.
MiFID II has had a significant impact on arrangements for the receipt and payment of research requiring the complete separation of payment for execution and research. This new regulation not only affects activities within the European Union (EU), but also situations in which managers have delegated asset management activities to jurisdictions outside of the EU.
The new Global Survey on Payment for Research provides information on whether separate payment for research is permitted in a range of non-EU jurisdictions. The Survey is intended to assist firms to implement the new research requirements across their global operations which may cover multiple legal entities.
Fund distribution resources
Dechert maintains two services designed to assist managers with global fund distribution and registration.
World Compass - A global web-based service offering investment firms 24/7 access to detailed information on fund marketing, separate accounts and beneficial ownership reporting
World Passport - An outsourced solution for fund registration globally for both UCITS and AIFs