EUROPE: EC Report on assessing the application and scope of Directive 2011/61/EU on Alternative Investment Fund Managers

Wednesday June 10 2020

The European Commission has published a report on the application and the scope of Directive 2011/61/EU of the European Parliament and of the Council on Alternative Investment Fund Managers.

The Commission is required to review the application and the scope of the AIFMD with an emphasis on the experience acquired in applying the Directive. The AIFMD is a significant pillar of the Capital Markets Union (CMU) facilitating the improved monitoring of risks to the financial system and the cross-border raising of capital for investments in alternative assets.

The report assesses whether the specific rules of the AIFMD are effective, efficient, coherent and relevant, and if they supported EU measures to achieve the general, specific and operational objectives of the Directive.

Impact on AIFs and AIFMs

The report found that the efficacy of the EU AIFM passport is impaired by national gold-plating, divergences in the national marketing rules, varying interpretations of the AIFMD by national supervisors and its limited scope. Smaller AIFMs unable to comply with all the requirements of the AIFMD must forgo raising capital in other Member States or overcome significant barriers to market access. Moreover, the AIFM passport allows marketing only to professional investors, again restricting the cross-border activities of AIFMs as semi-professional and retail investors can only be approached under varying (and often restrictive) national rules.

The role of NPPRs is acknowledged by stakeholders as an important factor in market development given the absence of the activation of the AIFM passport for third country entities. As a result, investors in the Member States with such regimes have been able to access global markets for financial services and diversify their investment allocations. However, NPPRs differ among Member States and, more importantly, require AIFMs to implement only a very limited number of the AIFMD requirements. This creates an un-level playing field between EU and non-EU AIFMs. Some Member States have closed market access for third country entities entirely. Some Member States have suggested further harmonising the NPPRs, whereas others consider that activating the AIFMD passport for third country entities, followed by a phasing-out of NPPRs, would be a better solution to this issue.

Impact on investors

The report has found that the dedicated regime regulating functions and liability of depositaries proved to be an effective measure for enhancing investor protection. Furthermore, it is functioning well, even though targeted clarifications may be necessary to address situations where AIFMs use tri-party collateral management or when central securities depositories (CSDs) act as custodians.

Additionally, the report has found that the lack of a depositary passport is at odds with the spirit of the single market. Because of the limited choice of service providers in smaller markets, there are also fears of concentration risk where a single depositary could hold the assets of all AIFs established in a Member State.

As regards valuation rules, which are necessary for establishing each investor’s share in a given AIF and for monitoring the AIF’s performance, the AIFMD brought some discipline and structure to the AIF asset valuation process. There may be, however, issues with the binary nature of the valuation rules, whereby stakeholders understand that a combined use of internal and external valuers is excluded, as well as uncertainty around the liability of external valuers, which determined under the national laws. However, there was insufficient evidence to suggest which disclosure provisions of the AIFMD should be amended.

Whilst entailing certain costs for the industry, the AIFMD rules on disclosures have largely achieved the objective of enabling investors to make informed investment decisions. Requiring disclosure of conflicts of interest is particularly appreciated by investors in alternative assets as this is one of their greatest concerns. The analysis indicates that the AIFMD increased transparency regarding the offered products and services.

Impact on monitoring and assessment of systemic risk

To monitor and mitigate macro risks that stem from the activities of AIFMs it is necessary to identify the relevant entities to ensure that they are meeting the basic requirements to manage professionally and responsibly their collective investments for the benefit of investors. There was no evidence found to suggest that the AIFMD thresholds of assets under management (AuM), above which the activities of AIFMs may pose significant systemic risk, should be adjusted.

The report states that stakeholders find the tool-kit for financial stability purposes available to NCAs under the AIFMD, including the possibility to impose leverage limits on an AIFM or suspend redemptions in the interest of the public, useful. The ESRB recommends further enhancement and harmonisation of those measures. This includes a recommendation to clarify the respective roles of NCAs and their cooperation in the cases where suspension of redemptions have cross-border implications. When deciding if an intervention in the financial markets is necessary, NCAs should be able to assess trends in the AIF industry and to monitor threats to financial stability considering the markets in which AIFs are trading. This is the reason for the AIFMD supervisory reporting requirements.

A closer analysis points to the need to consider their streamlining, while being mindful of the sunk costs already incurred by the compliant AIFMs. There are also overlaps with other Union laws, such as reporting to the ECB for statistical purposes, which could possibly support the case for adjusting the current reporting template under the AIFMR.

Regarding leverage calculation methods, in principle, the gross and commitment methods as currently provided for in the AIFMR are judged to be appropriate by many stakeholders. Nevertheless, some adjustments may be called for by the conclusion of the Financial Stability Board’s (FSB) and IOSCO work in this area, which is focused on data reporting, as well as recommendations of the ESRB for improved measures to assess macro-prudential risks.

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