"Nobody knows what will be the impact of all these new rules"
Assets managed by the European asset management industry reached €13.8trn at end-2010, according to the latest figures released by European Fund and Asset Management Association (EFAMA). In providing services to institutions, managers link investors, corporations, banks and government agencies that require funding. They also provide the financial markets with the liquidity they need to functioning well, thereby contributing to lower cost of capital, higher levels of investment and stronger long-term growth performance.
By performing these key functions, asset managers have become strong partners of institutional investors looking for professional investment management and a high level of ethical standards and integrity. Reflecting the enhanced role played by asset management in the European economy, UCITS assets have multiplied tenfold over the last two decades, from €600bn at end 1990 to €6trn at end 2010. This exceptional development also reflects the quality of the initial UCITS Directive as a regulatory framework, as well as the efforts made to strengthen this framework over time, most recently through the UCITS IV Directive thanks to a joint industry/policymaker initiative to improve the functioning of the single market for the benefit of the industry and investors alike.
One of our main concerns today is that the regulatory deluge that has hit the financial services industry globally, and asset managers in particular, could destabilise the foundations of the growth of our industry and have a profound impact on the institutional asset management landscape. The EU commissioner for internal market and services, Michel Barnier recently made this clear when he said there would be "no going back to business as usual" for the European financial services sector. Despite the fact that the European Commission does not consider it one of the root causes of the crisis, the investment management industry is no exception to the rule.
The most emblematic of these reforms is certainly the Alternative Investment Fund Managers (AIFM) Directive, which will be applicable by summer 2013. Often wrongly described as the "hedge-fund directive", AIFM will actually regulate all managers of non-UCITS funds, such as real estate funds. It will not only contain organisational rules for management companies but will also, indirectly, regulate the funds they manage or market.
Applying the new rules will require investment managers to restructure their value chain to fulfil the new requirements. The challenges and costs of this will mainly depend on the implementing measures being drafted by European Securities and Markets Authority (ESMA), the successor of the Committee of European Securities Regulators (CESR). It is to be hoped that the regulators take a pragmatic approach in implementing AIFM as the industry is already regulated at national level and large-scale restructuring would seem neither necessary nor beneficial for investors.
The legal framework for UCITS is also under review. While the entire European fund industry and national regulators are currently working hard to implement the UCITS IV "efficiency package" before it came into force on 1 July 2011, the Commission has already launched a new review of the Directive - the UCITS V review - focusing on increasing the level of investor protection. It will include, in particular, a strengthening of the liability regime for UCITS depositaries, rules on remuneration of UCITS managers and strengthening and harmonisation of sanctioning regimes across member states. The Commission is expected to publish its legislative proposal this year.
Other legislative initiatives, although not specifically addressed to investment managers, will also have a significant impact on their legal environment. This is particularly the case for the ongoing MiFID review, which is meant to improve the transparency of securities markets. One of the key issues is the plan of the Commission to extend pre-trade transparency also to the fixed income markets. It should, however, be noted that transparency is no panacea for institutional markets where liquidity is of paramount importance.
The forthcoming EMIR regulation on OTC derivatives contains a new requirement for standardised OTC derivative transactions to be cleared via central counterparties. The proposed rules contain a major challenge for long-term investors as they would be required to hold cash as collateral for OTC trades. For equity funds, which do not hold large amounts of cash, this could be a major yield drag and must be addressed by the policymakers. For pension funds the latest texts of both the European Parliament and Council include a transition period which would have been necessary for other long-term investors also.
These are examples of the numerous regulatory initiatives facing the investment management industry. Without going into detail, others worth mentioning are regulatory initiatives regarding packaged retail investment products, auditors, credit rating agencies, short selling, financial sector taxes, corporate governance, the review of the investor-compensation schemes directive, the securities law directive and social entrepreneurship. Investment managers will also need to monitor rules bearng on their institutional clients, such as Solvency II. And as if all of this would not be enough, more regulation comes from the US, namely with Foreign Account Tax Compliance Act (FATCA) and Dodd Frank.
The depth of the financial crisis and the weaknesses it exposed certainly called for ambitious reforms. We therefore welcome the initiatives taken by the Commission, each of which will undeniably contribute to the protection of investors and the prevention of future crises. However, their cumulative effect has never been considered and no combined impact assessment has been conducted in this regard. Nobody knows what will be the impact of all these new rules on investor returns and financing of future pensions in five-to-10 years' time when all of the rules have been implemented.
Further, one could ask whether the impact of these reforms on the competitiveness of investment funds as compared to competing products that are not necessarily subject to the same high level of regulation has been sufficiently considered. European policy makers should not lose sight of these aspects if they truly want to achieve their goal of better regulation. But in fact it seems that better regulation principles have been more or less forgotten: impact assessments are thin if non-existing, such as on the AIFM Directive, and stakeholder consultations are all too short, such as, on the Markets in Financial Instruments Directive (MiFID) review.
Whereas in the past, efficiency was a key factor driving European legislation, it does not seem to be an argument any more in the European regulatory debate. Safety comes first, the politicians say. Sometimes it seems they want to achieve this at any cost. By trying to regulate all the risks away from investment the big risk for investors is that of declining returns as the combined cost of all the new regulation hits the value chain of investment management. The role of a trade body is not to oppose regulation - that would be a bridge too far - but to convey the expertise of the industry to advise on the most efficient ways to achieve the aims of policymakers and regulators. For the sake of the industry and its investors, the European investment management industry must stand firm and unified, to be truly effective in this key regulatory debate of our lifetime.
"Nobody knows what will be the impact of all these new rules"