"Hedge Funds & AIFMD - what you should be doing to comply" - Global Perspectives white paper - May 2013

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The AIFMD regulation comes into force in the 27 countries of the European Union in July 2013. The main tenets of this wide ranging legislation are now well known throughout the industry. …

The AIFMD regulation comes into force in the 27 countries of the European Union in July 2013. The main tenets of this wide ranging legislation are now well known throughout the industry.

Put simply, AIFMD will change the alternative investment industry forever.

This is the first in a 2 part "Global Perspectives" white paper examining what fund managers should be doing right now to ensure they are ready for AIFMD. We will publish Part 2 of this white paper next month (June 2013).

Email shane@globalperspective.co.uk to receive this free white paper.

​Currently fund managers should be completing a detailed impact assessment to ensure they are ready for AIFMD.

Global Perspectives (www.globalperspective.co.uk) can assist in completing your AIFMD impact assessment and implementing its requirements.

Sign up for all free monthly Global Perspectives White Papers here:-

http://www.globalperspective.co.uk/aifmd#!whitepapers/c1a4e

or email:- shane@globalperspective.co.uk

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  • 1. Date 2 May 2013AIFMD – what youshould be doing tocomplyBy Shane Brett,Managing DirectorGlobal Perspectiveswww.globalperspective.co.ukA Global Perspectives White Paper
  • 2. ContentsIntroduction 21. Identifying the AIFM 22. Depository Selection 33. Authorisation 34. Third Country provisions 45. Delegation and Due Diligence 46. Remuneration policies 57. Leverage 58. Conclusion 5IntroductionThe AIFMD regulation comes into forcein the 27 countries of the EuropeanUnion in July 2013. The main tenets ofthis wide ranging legislation are nowwell known throughout the industry.Put simply, AIFMD will change thealternative investment industry forever.This is the first in a 2 part GlobalPerspectives white paper examiningwhat fund managers should be doingright now to ensure they are ready forAIFMD. We will publish Part 2 of thiswhite paper next month (June 2013).Currently fund managers should becompleting a detailed impactassessment to ensure they are ready forAIFMD. Global Perspectives(www.globalperspective.co.uk) canassist in completing your AIFMD impactassessment and implementing itsrequirements.1. Identifying the AIFMThe very first AIFMD task an AlternativeInvestment Fund Manager (AIFM) mustcomplete is to identify who the fundmanager really is. The correct AIFMmust be identified for each AlternativeInvestment Fund (AIF) in theinvestment group.This is crucial because this AIFM will bethe one legally responsible for ensuringthe AIF is compliant with all AIFMDregulations.Due to the complex structure of manyasset management groups thisidentification process may not bestraight forward. Nevertheless this
  • 3. Global Perspectiveswww.globalperspective.co.ukEmail: Shane@globalperspective.co.ukPhone: +44 (0) 20 3239 2843process must be completedurgently as so many of AIFMDnumerous regulatoryrequirements stem from this.AIFMD establishes a vague testfor establishing the AIFM. Theprimary consideration is whichentity carries out the funds’”“investment managementfunctions”.This is proving problematic forEuropean “managed account”products.2. Depository SelectionUnder the AIFMD regulationsevery AIFM must appoint a“depositary” to safeguard theinvestors in their funds. Thesewill work like super-chargedcustodians who will closelymonitor the assets in the fund,reconcile daily cash movementsand provide independentverification that the fund is beingrun properly and the assets arewhere the manager says theyare.The depository will be whollyliable to the funds investors andis assuming a very wideresponsibility of legal liability bytaking on this role (they are onthe hook even if the problem is ina sub-custody network outside oftheir control). Consequently onlylarge companies with deeppockets will be able to offer thisservice (often tier 1administrators who are part ofglobal banks). One bankrupt fundcould easily bring down a largebank. Depositories are expectedto charge handsomely for thismandatory service.Right now managers need to be activelyengaged in the depository selectionprocess. Managers should have begunthis selection process already, as it willtake time and is an importantinvestment decision.Some depositories may not be willing tosupport an investment strategyweighted towards emerging markets orexotic securities. For managers theselection of a suitable, cost effectivedepository aligned to their investmentstrategy will be a key consideration.For hedge fund and private equitymanagers the cost and intrusive natureof the new depository regime is a seachange in operational practise.3. AuthorisationAll European AIFM’s must apply fromauthorisation from their home countryregulators before July 22nd 2014 (i.e.one year after AIFMD becomes lawthroughout the European Union).This approval process is not yet clear inkey hedge fund jurisdictions like the UK(where over 80% of European hedgefunds are based). The application forapproval will likely require the fundmanager to demonstrate full compliancewith the 116 Articles of AIFMD.Managers must be familiarisingthemselves with the full spectrum ofAIFMD and how it will impact theirbusiness. This includes everything fromdepository requirements toremuneration rules, to leveragecalculations and fund servicesdelegation.
  • 4. Global Perspectiveswww.globalperspective.co.ukEmail: Shane@globalperspective.co.ukPhone: +44 (0) 20 3239 2843The extensive scope of thisanalysis may require theengagement of specialistconsulting expertise to assist inanalysing the business impact ofAIFMD.Global Perspectives can providefull support in your AIFMD impactanalysis.4. Third Country provisionsAIFMD applies to any non-UCITSfund managed or marketed inthe European Union. The rest ofthe world is slowly waking up tothis.Let us be clear – the non-European world will have tocomply with AIFMD’srequirements. The process forthese “Third Countries” will bephased and gradual between nowand 2018, but going forward if anon-European manager evenwants to road show a hedge fundin Europe they will have to befully AIFMD compliant.Non-EU managers should bereviewing AIFMD to understandtheir initial requirements. Theyface a phased compliance perioduntil the current regime expiresin 2018. The initial rules requirenon-EU managers to provide“transparency reporting” withdetails of the fund, its investmentstrategy and its investments. Thisincludes private equity funds.Further, more detailed,obligations will follow over thenext 5 years.Non-compliance with AIFMD will meanbeing locked out of the world largesttrading block.The rest of the world should think ofAIFMD like a European FATCA. i.e. non-Europeans are being given no choice butto fall into line and comply with AIFMD -just like the rest of the world had nochoice but to comply with the US FATCArules - whether they liked it or not.5. Delegation and Due DiligenceAIFMD has new rules around what isrequired when a manager delegatessome of its duties to a 3rd party. Thisobviously includes an investmentadviser or fund administrator.These rules make the manager directlyresponsible for the oversight of theseparties. AIFMD requires substantialinitial and on-going due diligencerequired on all service providers.Service providers themselves are alsonow required now to complete extensivedue diligence on their manager/client somanagers need to be ready toaccommodate these requests andmeetings.Managers should currently be engagedin this due diligence process for bothnew (e.g. depositories) and existing(e.g. fund administrators) fund serviceproviders. Also it should be noted thatAIFMD contained additional, moredetailed rules regarding the delegationsof portfolio or risk managementfunctions outside the European Union.Managers need to be considering theseadditional requirements if they delegatethese functions.The cumbersome nature of these duediligence visits and checks may meanmanagers or service providers will want
  • 5. Global Perspectiveswww.globalperspective.co.ukEmail: Shane@globalperspective.co.ukPhone: +44 (0) 20 3239 2843to outsource this activity. GlobalPerspectives can provide you withfull support for these duediligence requirements.6. Remuneration policiesSome of AIFMD’s mostcontroversial new rules arearound the area of hedge fundremuneration. They require fundmanager remuneration policies tobe disclosed to investors andregulators.Remuneration must also beweighted towards long-termincentives. This means thatemployees must be paid at leasthalf their bonus as shares in thefund. Furthermore they are notallowed to sell those shares for aminimum of 3 (and preferably 5)years.AIFMs are also being asked tointroduce prudent remunerationpolicies and organisationstructures to avoid a conflict ofinterest or which may encourageexcessive risk-taking. Theimplementation of the AIFM’sremuneration policy must bereviewed at least annually.Right now managers need to bereviewing their internalremuneration policies and takingsteps to ensure it complies withAIFMD. In certain cases this willmean the establishment of aremuneration committee (if themanagers total AUM is above€1.25 billion).All of this represents a hugechange for the remunerationpolicies of most European hedge funds.7. LeverageAIFMD stipulates two brand new ways tocalculate leverage. These are the“Gross” & “Commitment” methods.The “Gross” method attempts to give apicture of the funds overall exposure.The “Commitment” method focusesmore on the hedging and nettingtechniques used by the fund manager.The key point here is that these arenew, compulsory methods for leveragecalculation. The more common “Value atRisk” (VAR) methodology is notacceptable.Managers need to be working with theirsystem vendors and internaldepartments to ensure thesecalculations are built into their softwareapplications. They also need to bemaking initial leverage calculationsusing these new methodologies inpreparation for AIFMD.This is important because managers willhave to report leverage to their homeregulators and to investors. They willalso have to monitor it closely andadvise investors if they breach theirstated leverage threshold.8. ConclusionThe reward for complying with all ofAIFMD’s requirements will be an EU“Passport” to offer alternativeinvestments across Europe, similar tothat of the existing UCITS Passport.Over time this passport may becomethe new “gold standard” of alternativeinvestment products and open up new
  • 6. Global Perspectiveswww.globalperspective.co.ukEmail: Shane@globalperspective.co.ukPhone: +44 (0) 20 3239 2843global opportunities to theindustry (e.g. in Asia and LatinAmerica)Part 2 of this white paper(released in June 2013) willaddress the other main AIFMDrequirements that managersshould be addressing. These willinclude:-· Fund domiciliation,· Fund manager liability,· Investor and regulatoryreporting,· Liaising with Service Providers,· Internal organisational change,· Managing illiquid investments.· Market opportunities presentedby AIFMDAs can be seen from this whitepaper the demands of AIFMD areconsiderable. Global Perspectives(www.globalperspective.co.uk)can assist in completing yourAIFMD impact assessment andimplementing its requirements.Sign up for all Global Perspectivesmonthly White Papers at-http://www.globalperspective.co.uk/#!whitepapers/c1a4eOrder the new book (Jan 2013)-“The Future of Hedge Funds”By Shane BrettThe last 2 decades have transformed theHedge Fund industry from a nicheinvestment segment to a massive globalindustry.In this excellent and wide-ranging studyof the Hedge Fund industry, Shane Brettexamines the main issues and trendscurrently taking place, and analyses howthey will affect the future of the industry.This includes-• Changing investor demands across theindustry,• New regulatory requirements - includingFATCA, AIFMD & the JOBS Act,• Future operational trends - includingOperational Due Diligence & ManagedAccount Platforms,• Emerging Service Provider opportunities– including Hedge Fund Administrators,• Hedge Fund investment strategy -including new emerging investmentopportunities,• Best practice change management –how to manage Hedge Fund industrychange.
  • 7. Global Perspectiveswww.globalperspective.co.ukEmail: Shane@globalperspective.co.ukPhone: +44 (0) 20 3239 2843The “Future of Hedge Funds” alsoexamines the current and futureglobal economic environment andwhat this will mean for HedgeFunds in the years ahead.Available from Amazon inpaperback here-www.amazon.com/Future-Hedge-Funds-Trends-industry/dp/1481130226/And for Kindle here-www.amazon.com/The-Future-Hedge-Funds-ebook/dp/B00AHACY8Y