12/05/2010 Author: Shannon Hawthorne

Irish Financial Regulator reviews ‘Newcits’ policy

The Irish Financial Regulator is to conduct an in-depth review into its current policy on the licensing of hedge fund-style Ucits funds, as it seeks to clarify the required relationship between non-Irish fund managers and the third-party companies that promote their funds from within Ireland, HFMWeek can exclusively reveal.

The move follows a number of concerns expressed by the Regulator about the increasing number of hedge fund-style Ucits funds, or ‘Newcits’, being launched by firms using a third-party promoter vehicle – commonly known as a renter-promoter relationship – in order to avoid having to meet Irish minimum capital adequacy requirements.

The supervisory body currently frowns upon arrangements where the promoter of a fund – that is, the party that is bringing the fund to market – is not closely affiliated with the investment manager. However, according to an internal source, the Regulator has received an increasing number of proposals from funds seeking to use promoter vehicles with whom they are not closely linked and, as a consequence, is preparing to re-evaluate their current stance on this issue in an internal paper.

Currently, the Regulator requires that the promoter of any Irish-regulated fund has audited net shareholders funds of €635,000 ($805,000). However, there are growing concerns about the number of fund managers who are opting to use a third-party promoter vehicle because they cannot meet this minimum requirement.

One fund manager who recently met with the Financial Regulator to discuss the possibility of launching a Ucits fund using a third-party promoter confirmed to HFMWeek that the Irish watchdog expressed a strong preference towards the fund using their own entity, and not a third party, as a promoter for their Ucits product.

The Regulator’s current official position, however, remains that, while they do not support proposals where the promoter does not have any tangible connection with the investment manager, they regularly approve arrangements in which the third-party promoter has a substantive link to the fund project.

“The things that the Regulator would typically look for to show that a proposed promoter had a genuine link to a fund manager would be that they were, for example, involved in some way with either the investment management or the marketing of the fund, or that they had a demonstrable long-term relationship with the investment manager,” said Donnacha O’Connor, a partner at law firm Dillon Eustace.

As yet, no firm decisions have been made with regard to any policy changes. The supervisory body is expected to consult with the industry before coming to any definitive conclusions.

“The Regulator wants to ensure that every promoter of an Irish fund has sufficient substance to protect the operation and reputation of the market,” said Barry McGrath, a partner at the Dublin office of Maples and Calder. “I would estimate that the review will take around six-to-eight weeks, after which the Regulator will most likely give the industry another six-to-eight weeks to respond with their view, particularly as some consequences may flow once the Alternative Investment Fund Manager (AIFM) Directive is finalised.”

There are currently approximately 30 so-called Newcits funds licensed in Dublin, a figure which is likely to continue to rise in the future. According to Christopher Day, a director of investment advisory Merchant Capital, which recently set up a Ucits umbrella structure, within which managers can launch a segregated Ucits sub-fund, the rapid growth of interest in the Ucits space has meant that it is “somewhat unsurprising that the Regulator is reviewing its processes in this area”.

“Unfortunately there are always going to be individuals – very much in the minority – who try and circumvent the regulatory practice, something that will have far-reaching consequences for everyone else,” added George Cadbury, also a director of Merchant. “As such, we would encourage the Regulator to carry out as many procedures as possible to ensure that those moving into Ucits are doing so for the right reasons and have the appropriate regulatory permissions.”

The move also follows a number of concerns expressed by industry commentators about the growing proliferation of hedge fund-style Ucits, namely that a product aimed at traditional retail investors may create confusion or due diligence issues.

Last month at an industry conference, Dan Water, the UK Financial Services Authority’s director of conduct risk, stressed the need for close regulation of the growing Ucits space.

“Managers of Ucits, whether these so-called new strategies or more familiar ones, must pay due regard to the requisite investment in systems and controls to meet the specific requirements of these highly regulated structures,” he said in a speech at the State Street Trustees Conference.