Depository banks and the shape of things to come
UCITS funds: the classic SICAV and FCP umbrella, have typically until now been the main fund structures serviced by large custodians, yet modern investment trends increasingly lean toward a pipeline of alternative vehicles: real estate, private equity, hedge funds and structured products.
Funds – the changing landscape
Newer trends for investment in the ‘alternative space’ have seen investment managers being forced by investors to improve their returns, get products to market quicker and improve transparency. Moreover, products that have a lower cost basis than traditional UCITS are surging in popularity. Many of these funds, either not being or much less strictly regulated can be launched swiftly, providing cheaper and more flexible options for many sophisticated and institutional investors. The SIF brand in particular is becoming as important as the UCITS brand and in turn becoming synonymous with Luxembourg.
Markets govern motion
Historically, in Europe, Ireland has been seen as the main hub for hedge funds but Luxembourg is emerging as the second largest worldwide provider of private equity and real estate funds. With the recent shadow of the economic downturn still hanging over the investment market, arguably it is this factor, rather than the increasing need for investors to bring product to market quickly and cheaply, that calls for reinforcing protection for investors and averting any future world economic crisis. The two main regulatory changes are: the AIFM Directive and EMIR - the European equivalent of Dodd Frank in the US. Both are widely expected to be transposed into Luxembourg regulation by the end of 2012, but the AIFM Directive will continue to be enriched in phases until the end of 2019 – with the EU passport feature currently planned for 2015.
Custodians looking at the alternatives
Given the above, as of 2013 most major custodians and depository banks are going to be required to take in a wave of alternative funds, who will be obliged to appoint a depository bank under the AIFM Directive rules. In essence, this directive will impose a similar regime to the current FCP regime and could therefore be particularly challenging for large custodians where establishing title and putting in place effective due diligence over ‘not in network’ assets may be complicated. The definition of assets is still being hotly debated and depository bank liability for restitution of assets remains a grey area in some instances. With the requirement to oversee the NAV calculation process additional skilled resources will also be required by the depository banks, as will further investment in technology. Promoters of alternative funds will thus need to ensure that the right custodians are selected to service their funds.