industry news: regulation in Europe is evolving into a more flexible model to keep up with overseas centres
Asset management firms are expected to launch a raft of UK-authorised, quasi-hedge funds appealing to pension funds and institutional investors if proposals by Britain's market regulator allowing regulated funds using leverage and derivatives goes ahead.
Timothy Spangler, partner in the investment funds group at London lawyer Berwin Leighton Paisner, said long- only asset management firms could also offer UK-regulated funds using derivatives based on financials and commodities, and up to 100% leverage, to retain clients seeking managers with absolute return products. Staff members doing the same may also be convinced not to move to hedge fund firms, he added.
The Financial Services Authority's (FSA) new proposals, putting forward what it called a 'lighter touch' in regulation, also include allowing performance fees for authorised funds, so managers' remuneration could be linked more closely with portfolio performance than may presently be the case.
Spangler added asset management firms could use proposed, regulated funds akin to hedge funds to diversify revenue streams away from falling long-only sales.
Currently, hedge funds are not authorised onshore by the FSA.
However, in its Consultation Paper 185 in May, the FSA proposed authorising funds for the non-retail market that could use financial and commodity-based derivatives and leverage subject to more extensive disclosure to investors.
The commodity derivatives will be limited to those trading regularly on regulated markets, and the fund will not be allowed to take delivery of the commodity covered by the contract.
'Rather than stipulating spread limits for particular asset types,' the paper continues, 'we propose relying on a high-level rule (requiring) suitable diversification of risk regarding the capital appreciation and income stream into the fund, whichever is the investment objective in terms of returns to investors.'
Spangler said hedge fund managers with offshore portfolios could set up onshore mirrors to entice investors, who had previously shied away from unregulated hedge funds, into regulated vehicles that used some of the instruments earlier restricted to hedge fund managers.
'I am encouraged that we are moving toward a three-level set of regulations where you have Ucits-compliant and non-Ucits-compliant retail funds still eligible for broad retail distribution, and this institutional experts-only vehicle, a non-retail fund type,' Spangler said.
'This may prove to be a jumping-off point into hedge funds for some investors, and hopefully it will open the doors to pension plans... who are already growing participants in the US markets.
'Looking at the success of Luxembourg and Ireland taking a more liberal stand, it is a good thing to consider moving away from a rule-focused approach. It would do a great deal to take the cloud away from hedge funds to have this product, even if it is restricted in derivatives and leverage.'
The growing divergence of European regulators' approach to the hedge fund industry, and the potential of London to fall behind continental centres, was a key feature of a report published by PricewaterhouseCoopers on hedge fund regulation in May.
Graham Phillips, European hedge fund practice leader at PricewaterhouseCoopers, said decisions made at national rather than supra-national level, tax disparities and different interpretation of EU-wide law by regulators all hindered Europe-wide distribution of hedge funds.
'To compete with US hedge fund managers, the regulatory environment in Europe needs to continue to evolve and to move towards the US model with flexible regulation and fewer barriers to distribution,' added Phillips.
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