Undertakings for collective investment in transferable securities (UCITS) are regulated investment funds which can be sold to the general public throughout the European Union, due to their increasing popularity the importance of having common and harmonised standards for investor protection is becoming increasingly important. UCITS V seeks to address this issue along with a number of other matters in the directive. One of the key aims is to increase the level of protection offered to investors in UCITS and to improve their confidence in UCITS funds. This shall be done by enhancing the rules on the responsibilities of depositaries and by introducing remuneration policy requirements for UCITS fund managers.
In order to get a better perspective of the market from a participant point of view and to ensure a smooth implementation process, the Financial Conduct Authority (“FCA”) are now accepting comments on the proposed changes that will come with UCITS V. Comments can be submitted in regards to the CP15/27: UCITS V implementation and other changes to the Handbook affecting investment funds consultation paper (the “Consultation Paper”), published on 3 September 2015. Deadlines for the submission of comments are fast approaching as the nearest one is 5 October 2015, should you require more information on how to submit a comment please refer to the bottom of this article.
CP15/27 CONSULTATION PAPER ON UCITS V
The Consultation Paper addresses the key changes proposed in respect of UCITS V and is divided into three parts which concern, respectively, Implementing UCITS V – Part I, the regulation of European Long Term Investment Funds (“ELTIF”) – Part II, and miscellaneously categorised changes to fund regulation – Part III. The proposed changes to regulation across the three parts of the Consultation will be of particular interest to:
- undertakings for collective investment in transferable securities (“UCITS”) management companies, alternative investment fund managers (“AIFM”) and depositaries of UCITS and AIFs (including ELTIFs);
- representative trade bodies;
- business advisers and consultants;
- other advisers and distributors involved in or linked to the fund management industry in the UK; and
- investors in authorised funds and their representatives.
Below we have provided high-level summaries of some of the proposed changes along with an outline of some of the other issues discussed in the Consultation Paper.
UCITS V aims to harmonise the remuneration requirements to which UCITS management companies are subject to with those applicable to AIFMs. The remuneration structures and policies of management companies will have to include the following:
- assessment of individual member of staff’s performance;
- restrictions on the awarding of guaranteed variables;
- the balance between fixed and variable remuneration;
- the payment of remuneration in the form of units or shares in the UCITS under management, or of other instruments with the same incentives;
- a mandatory deferral period of at least three years for the payment of a substantial portion of the variable remuneration component on a pro-rata basis; and
- the reduction or cancellation of remuneration in the case of under-performance.
- DISCLOSURE TO INVESTORS
UCITS V requires additional information to be disclosed to investors in various documents, including:
- a description in the prospectus of potential conflicts of interest that may arise between the management company, the UCITS or the investors in the UCITS and the depositary;
- a description in the prospectus of any delegated safe-keeping functions, including a full list of delegated custodians and sub-custodians and of any potential conflicts of interest;
- details of the management company’s remuneration policy and arrangements to be disclosed in the prospectus or on a website and a signpost in the key investor information document (“KIID”) explaining how to get that information; and
- details of the remuneration paid by the UCITS management company to its staff and other information about its remuneration practices, to be disclosed in the fund’s annual long report.
- OPERATING DUTIES OF DEPOSITARIES
The FCA have proposed rules and guidance covering the following areas in relation to depositaries:
- the general obligations applicable to the depositary;
- the duties of the depositary in dealing with potential conflicts of interest;
- the obligation of the management company to appoint a single depositary;
- the eligibility criteria to act as depositary, for firms that are neither national central banks nor credit institutions;
- the scope of the depositary’s cash monitoring, safekeeping and oversight functions;
- delegation of the safekeeping function;
- reuse of the assets of the UCITS by the depositary; and
- whistleblowing requirements applicable to the depositary.
The FCA intends to transpose all of the proposed rules in a dedicated section of the FCA Handbook which will be applicable to UCITS depositaries – Collective Investment Scheme Sourcebook (“COLL”) 6.6B.
- REPORTING REQUIREMENTS
The existing reporting requirements will be updated in two areas: reporting by authorised fund managers (“AFM”) of UCITS of their use of derivatives, and reporting by depositaries of breaches of our rules and their monitoring of AFMs.
Reporting by authorised fund managers of UCITS schemes:
An AFM of UCITS schemes is currently required, under COLL 6.12.3R(2), to notify details of its derivative risk management process (“DRMP”) to the FCA on a regular basis (and at least annually). AFM’s notification should include details of the derivatives and forward transactions used in each UCITS scheme, together with the underlying risks and any quantitative limits, and the methods for estimating the relevant risks. The format for submitting this information to us is not currently defined. As a consequence, we have found that the information we currently receive is often incomplete or in a format that is not easy to assess or compare.
To assist AFMs to submit complete and comparable information in compliance with COLL 6.12.3R, we propose to introduce a standard DRMP reporting template. The template will be included in COLL 6 Annex 2R and AFMs will be required to submit the proposed report to us via the GABRIEL system.
The template contains fields for providing the following information:
- name and scheme of the relevant fund;
- fund’s AUM and its gross long and short derivative position;
- details of the risk measures used;
- information on the fund’s leverage, calculated according to EU guidelines and the relevant fund leverage limits if defined in the prospectus; and
- basic information on the types of derivative used by the AFM.
Reporting by depositaries:
Section 6 of chapter 16 of the Supervision manual (“SUP”) 16.6 contains requirements for depositaries to report certain breaches of COLL rules by AFMs on a quarterly basis. They must submit returns covering the number of negative boxes not corrected in accordance with our guidance, along with material pricing errors and immaterial pricing errors, where the depositary did not consider the AFM’s controls to be adequate.
These returns do not detail the nature of the breaches and are limited in scope, focusing mainly on material pricing errors and negative boxes. The requirements also give the depositary the flexibility not to report breaches that it considers isolated. As ‘isolated’ is not defined in this context, this provision may lead to inconsistent reporting.
In November 2014 the FCA reached an informal agreement with members of the Depositary and Trustee Association (“DATA”) that they would voluntarily begin reporting full details of all COLL and FUND breaches they record together with any findings that arise from their respective monitoring programmes. As part of the agreement with DATA members, the FCA undertook to consult on putting in place enhanced reporting on a permanent basis and hence the FCA has now proposed the following:
- monthly reporting of COLL and investment funds sourcebook (“FUND”) breaches recorded by a fund’s depositary including a declaration, for each AFM for which the depositary provides oversight, as to whether the depositary considers the AFM’s controls over valuation and pricing and box management to be adequate; and
- quarterly reporting of issues that arise as a result of depositaries’ monitoring of AFMs’ operations.
- FEEDER FUNDS
The FCA have identified some aspects of the rules concerning the use of non-UCITS feeder funds which they consider to be either unintended, or to inhibit fund managers from making good use of the master-feeder structure. The FCA has proposed the following changes to improve the efficiency of these rules.
- a new definition of the Glossary term ‘feeder fund’ which will be amended to be called ‘pension feeder fund’; and
- clarifications around which rules apply to a pension feeder fund.
- NON-UCITS RETAIL SCHEMES INVESTING IN FEEDER FUNDS
The FCA proposed a new rule (COLL 5.6.10AR) which will give managers of non-retail schemes (“NURS”) that are not funds of alternative investment funds (“FAIF”) flexibility to invest through certain types of feeder fund, subject to some limitations. The FCA would allow investment in units of a feeder UCITS, a feeder NURS or a feeder fund linked to a property authorised investment fund (“PAIF”) or a recognised scheme. The conditions are that:
- the master fund must be either a UCITS, a NURS or a recognised scheme offering equivalent protection
- the master fund must comply with the requirement not to have more than 15% exposure to units of other collective investment schemes (“CIS”)
- the NURS cannot have more than 35% of its portfolio in units of feeder funds of any kind, and
- the authorised fund manager must be able to show on reasonable grounds that the use of a master-feeder structure would not disadvantage NURS investors, taking account of risks and costs (e.g., that it is tax-efficient or is the only way to gain exposure to certain investments).
- ALIGNMENT WITH AIFMD
The FCA have proposed to revise the guidance in COLL 1.2 on NURS and QIS to explain their status as alternative investment funds under AIFMD. The FCA will also add guidance in various places (including FUND 3.3) to clarify the relationship between FUND rules on investor disclosure, fund valuation and delegation that apply to all AIFMs, and the COLL rules on the same subjects that apply to only managers of UK authorised funds.
- OTHER CHANGES
The FCA have also proposed a number of other changes in the following areas:
- Money Market Funds
- Identifying funds in customer documents
- Charity authorised investment funds
- Property authorised investment funds
- Calculation of borrowing limits under COLL 5.5.5R
- Removing out-of-date provisions
To view the full Consultation Paper and detailed proposals please follow this link.
The FCA are seeking comments from firms on the proposals made. Comments can be submitted via the FCA’s online response form on this link.
The following deadlines for submission of comments apply:
- Part I of the Consultation Paper by 9 November 2015.
- Part II of the Consultation Paper by 5 October 2015.
- Part III of the Consultation Paper by 7 December 2015.
Should you have any questions in relation to UCITS, UCITS V or its implementation, Cleveland & Co, your external in-house counsel, is here to help. Please feel free to get in touch.