After the crisis year 2008 and the market instability that followed, G20 nations made a concerted push to increase regulatory oversight for the financial sector. The EU especially wanted to harmonise each nation’s financial regulation, which was currently disjointed across the member states. This was limiting both oversight and potential growth for the industry. The Undertakings for Collective Investment in Transferable Securities Directive (UCTIS) was one of the few EU-wide regulations and had been in force since long before the 2008 crisis. Post-crash, however, it was joined in 2011 by a new piece of legislation: the Alternative Investment Fund Managers Directive (AIFMD).
UCTIS and AIFMD were designed to increase both the quality and the scope of financial regulation for the majority of investment funds. While UCTIS held sway over many major funds the public could invest in, the group of Alternate Investment Funds including hedge funds, real estate funds, private equity funds and any other investment vehicle not explicitly defined as coming under UCTIS had been operating without EU-level regulation for years.
José Manuel Barroso, then President of the European Commission, declared:
“The adoption of the directive means that hedge funds and private equity will no longer operate in a regulatory void outside the scope of supervisors. The new regime brings transparency and security to the way these funds are managed and operate, which adds to the overall stability of our financial system.”
But AIFMD was not just about increasing regulation. It also allowed passporting rights for funds that complied with AIFMD to market and operate across the EU, without having to exhaustively comply with each country’s specific financial regulation. The view was that harmonisation would allow the European market to operate on a much larger scale while the regulators could still maintain a tight grip on the financial market, to avoid the failings that led to the crisis of 2008 and beyond. It was also hoped that foreign capital, especially from the US, would be enticed by access to all 28 nations of the EU under a single piece of legislation.
However, its critics declare it to be extremely onerous to fund managers, requiring them to have sizable administration and compliance departments to deal with both mandatory national regulation as well as the EU-wide regulation. Head of PWC’s Hedge Fund department, Grant Lee, said: “Managers shouldn’t underestimate what they need to do; AIFMD includes quite a lot of new requirements… [AIFMD is] going to be a more complex way of going forwards.”
Taking On More Of The Action – The Super ManCo
Prior to AIFMD, there was a small market of companies who specialised in regulatory compliance, fund management and operations. Fund managers could outsource these roles to a management company (‘ManCo’) rather than employ an operational department of their own, for a price. The majority of fund managers, however, deemed this unnecessary.
After the introduction of AIFMD, however, the complexity and cost of complying with financial regulation increased sharply. For small funds especially, the costs of administrating, establishing and operating a fund were prohibitively high. Some overseas funds withdrew entirely or halted expansion plans.
71% of American fund managers believed the AIFMD would negatively affect the industry. As the legislation came into effect across Europe starting in 2013, many fund managers reported that compliance was costing them more than they had expected it to. The average time for regulatory approval rose to nine months in 2016 – a far cry from the pre-crash days where authorisation to operate a fund could be received in just a few weeks.
From this turmoil, a new species of ManCo rose: the Super ManCo. Promising not just to assist with increasingly challenging regulatory compliance, these new firms could completely control almost all of the operation and administration of fund management, allowing the fund managers to focus entirely on portfolio management. Effectively, the Super ManCo can ‘host’ a fund under its own AIFMD license, leading to the description of them acting as a ‘regulatory umbrella’ for funds unable or unwilling to invest in compliance and operations departments of their own.
in the EU use some form of ManCo
Fees for such services are far from standardised. A mixture of flat fees and percentage of assets under management (AUM) are the primary pricing methods, but final costs for funds can range from €35,000 to €200,000+ per year, depending on their exact operations and size. While this seems expensive, the cost of ‘going it alone’ and having an in-house AIFMD compliance department can be anywhere between £250,000 to £400,000 per annum. The market for management companies has continued to boom, and it is estimated that 14% of all alternative investment funds (AIFs) in the EU now use some form of ManCo, and continuing growth is predicted.
Brexit Uncertainty And Passporting Rights
For funds and for their management companies in the UK, June 24th brought a new wave of uncertainty. The passporting rights granted by AIFMD are of utmost importance to any fund that deals with investors across Europe, and the Brexit vote has cast doubts upon the future of the directive. Should the UK leave without any deal being struck, the ‘passport’ would be lost. This will undoubtedly cause any potential new fund managers to reconsider the jurisdiction where they set up, some of whom will now choose to register in Ireland or Luxembourg instead of the UK.
Some, however, welcome the opportunity to shed onerous EU legislation. MP Jacob Rees-Mogg said that legislation such as AIFMD was making the UK “less competitive”, and added “considerable weight of bureaucracy to running a business”.
For Super ManCos, however, the burden of such legislation is the very essence of their business. Fortunately for them, the likelihood is that the European Securities and Markets Authority (ESMA) will grant the UK an equivalency status post-Brexit. They have already confirmed that Guernsey, Jersey and Switzerland meet the requirements to use the AIFMD passport, and seeing that the UK has already fully implemented the legislation, there should be little doubt that the equivalency would be extended to the UK. Market uncertainty will persist, however, until a deal is struck.
Super ManCo Tower Gate Capital is optimistic about the future. The company’s Will Roxburgh said: “I am completely confident passporting rights will be granted to the UK during negotiations. The ManCo market is a growing trend as is increased regulation and Brexit will not change this. Where funds choose to set up will still be largely driven by where their operational teams want to live and where the top talent is.”
Here To Stay
The Super ManCo is most definitely here to stay for the foreseeable future. Several hundred billion euros are already under the watchful eye of these companies and their myriad fund managers, and the predictions are that this will only increase, despite the fallout from the Brexit vote. For many funds, a management company will be significantly cheaper than attempting to meet the high standards of regulation, as well as providing a degree of experience and efficiency that could be invaluable. While for investors, the ManCo can only be a good thing. They allow a high level of market scrutiny and regulation while lowering the barriers to entry caused by such regulation as far as possible, streamlining the market and lowering costs. And as for the future of the industry, Will Roxburgh thinks this is only the beginning, with the “fund management industry being turned on its head. With top managers simply sitting within larger ManCos who effectively incubate them. The ManCo market IS the future of the Fund Management industry.”