Building a global platform: Marketing investment funds in Europe
Reprinted with permission of Hedgeweek. The global investment funds marketplace today is beset by contradictory economic forces, with increasing financial opportunity accompanied by a rising regulatory burden and populist politics. These tensions are perhaps nowhere more apparent than in Europe, where the investment funds industry posted a record high in 2016 of EUR14.1 trillion in assets under management, including record sales of alternative investment funds of EUR184 billion. This all occurred amidst the Brexit referendum, Trump election, record immigration, attacks of terrorism and sporadic bursts of nationalism.
The underlying message is a profoundly positive one: the forces of global capital markets will continue to present great opportunities to those with the foresight to build a bridge to the future.
For US managers seeking to reach new investors and diversify their client base, Europe continues to present a tremendous opportunity. The path forward into Europe generally runs into an array of acronyms: UCITS, AIFMs, two MiFIDs, KIIDs and PRIIPs, just to name a few. That often is enough to scare US managers away and maintain a barrier to entry in this valuable market. There are, however, a number of strategies US managers may employ to develop and capitalise on a presence in Europe, as well as service providers that can assist a manager to successfully navigate the European marketplace. Provided below is a general blueprint for navigating the European market.
1. Identify the target market. The first step in a European expansion is to identify target markets, as the investor base will drive the structural approach and may be more compatible with certain legal structures than others. Likewise, certain target markets may be more compatible with an adviser’s distribution expertise and provide better possibilities for growth. The largest markets in Europe include the United Kingdom, Germany, France, Switzerland, Netherlands, Norway, Sweden, Denmark, Austria and Italy. The two markets here that may stand out are Switzerland and the United Kingdom, because Switzerland is not in the European Union (EU) or European Economic Area (EEA), and the United Kingdom, having now triggered Article 50, is on its way out.1 The choice of target markets will ultimately affect the structure an adviser chooses to use for distribution.
Other important considerations in identifying a target market include the type of investors and mode of distribution. The gatekeepers for institutional and private clients may differ, and certain European investors such as insurance companies and pension funds may be subject to regulation requiring them to obtain information on holdings of funds in which they invest. In addition, gatekeepers may employ different approaches to identifying investors, with some providing the tools to target investors by type and location, while others provide a global platform that requires funds to have broad registration in order to be eligible. Before building a product, it is key to understand how you will deliver that product to investors.
2. Assess the regulatory landscape. Having identified target markets, the next step is to take an overview of the regulatory landscape. To begin, that means reviewing local private placement laws and practices. While local placement regimes are on their way out due to the AIFM Directive, they can still present a viable pathway to open marketing activities in Europe without the need for an EU fund. Such private placement regimes are valid until fully replaced by the AIFM Directive and EU passport regime, which is expected July 2018, unless extended. Where advisers are looking to market in multiple European jurisdictions, a European passport still provides the most effective way to enter the European market, and that, for the most part still means advisers will need a European fund.2
3. Design a tailored product. In order to reach potential investors in Europe, many managers will require a European fund, which is generally a two-step process: (1) select the regulatory regime, and (2) identify the corporate structure. The regulatory options available include both alternative investment funds (AIFs) and mutual funds (UCITS). Both AIFs and UCITS provide a European-wide passport and include similar management, custodial and risk management requirements. In addition, UCITS and AIFs enable a dual management structure whereby a local management company delegates investment management responsibilities to an external investment manager located in the US The use of the dual management structure enables the US manager to insulate itself from its European activities and provides the opportunity to outsource the management company responsibilities to an external manager—an added benefit for those looking to slowly build into the European market.
The main difference between these vehicles is the “TS” in UCITS: transferable securities. That is, UCITS funds include mandated diversification and liquidity guidelines that may make the regulatory structure less suitable to certain alternative strategies, such as those involving high levels of leverage or concentration, commodities, private equity, investor activism or distressed securities. The advantage of the UCITS structure is its global reach: in addition to opening distribution opportunities in Europe, UCITS are widely distributed in Asia and Latin America, which enable economies of scales for managers looking to go global. In addition, UCITS permit a large degree of share class specialization, and in an effort to accommodate a variety of institutional and retail investors, the range and types of fee and distribution arrangements may vary significantly.
The second step in the process is a familiar exercise for managers: work with counsel to set up an appropriate investment vehicle. For UCITS, this will generally mean a Luxembourg SICAV or Irish ICAV structure, which enables managers to efficiently set up multiple sub-funds within a single corporate structure. AIFs involve an array of options, including both corporate and partnership structures, as well as the use of master-feeder arrangements and corporate blockers for investment purposes.
4. Build out your structural solution. The final step in setting up a global European advisory business is to build out the structural solution. This will involve discussions with service providers, including depositaries, administrators and auditors, as well as an external manager if applicable. Internally, managers will set up EU-compliant policies and procedures, as well as governance, compliance and oversight controls. With the product and structure in place, US managers will have a platform from which to capitalise on opportunities into the future.
A word about MiFID. Among the most feared of European acronyms, MiFID governs the way firms market their products, as well as the market infrastructure for trading. In particular, MiFID involves controversial requirements that managers bill clients separately for brokerage commissions, which are still in the process of being addressed by the industry. On the other hand, MiFID’s customer assessment requirements do not apply directly to fund managers if their only business is to distribute those funds. However, where an adviser sets up separately managed accounts or otherwise deals directly with investment management clients in Europe, they will become an EU-regulated adviser subject to MiFID.
The global capital markets will continue to present great opportunities to those with the foresight to develop a plan to navigate the European market and build a global presence. While increased possibilities come with new challenges and responsibilities, we have worked with clients to successfully overcome barriers to entry and develop a global platform.
1 While Norway is not part of the EU, it is an active member in the EEA and so passports EU investment funds.
2 Last year ESMA did recommend that the EC grant passporting rights to managers and funds domiciled in Canada, Guernsey, Japan, Jersey and Switzerland, and gave positive indications towards the US Managers and funds from other domiciles, such as Bermuda and the Cayman Islands, remain subject to further review for compatibility with the AIFMD.