CSSF confirms AIFs’ ability to grant loans in updated AIFM law FAQ
On June 9, the CSSF issued the latest update of its Frequently Asked Questions document on the grand duchy’s law of July 12, 2013 implementing the AIFMD and the European Commission’s Level 2 regulation on implementation of the directive, last revised on August 10, 2015.
The new version provides clarity about the ability of Luxembourg-domiciled alternative funds to conduct loan origination, participation and acquisition, an important issue given the role of the grand duchy as a leading centre for funds conducting or investing in loans.
The FAQ document, which has now run to 10 versions over the past two-and-a-half years, is intended to highlight aspects of the AIFMD rules from a Luxembourg perspective, for the benefit primarily of alternative funds and fully AIFMD-authorised managers established in the grand duchy. It complements Q&A documents on the AIFMD and its subsidiary legislation published by the European Securities and Markets Authority and by the European Commission.
The FAQs cover issues including the scope of the law, the authorisation and registration regimes applicable to alternative managers, delegation requirements, entry into force of the law and duration of transitional provisions, the scope of authorised managers’ activities, depositary requirements, the application of the AIFMD passport to Luxembourg managers and funds as well as to foreign managers marketing in Luxembourg, reporting, valuation, transaction costs, managers’ capital requirements, marketing and reverse solicitation, notification of investment in non-listed companies, and co-operation agreements signed by the CSSF with non-EU regulators.
Loan business permitted in principle
The new version clarifies that loan origination, participation and acquisition are in principle permissible activities for Luxembourg-domiciled alternative investment funds under the 2013 legislation as well as specific product laws and regulations governing the various fund vehicles designated for AIFs. The granting of loans is also explicitly permitted under certain conditions in the EU regulations governing European Long Term Investment Funds, European Social Entrepreneurship Funds and European Venture Capital Funds.
However, the CSSF says various factors should be considered by an alternative fund or its authorised manager, before and during any loan origination transactions, and the regulator will consider these aspects on a case-by-case basis as part of its process of authorisation and ongoing supervision of the AIFM and where appropriate the fund.
All general requirements for AIFMs with regard to the AIFs they manage under the 2013 legislation according to the Law of 2013 apply in the case of loan origination, participation or acquisition, as well as any particular requirements on the fund arising from relevant product laws or regulations.
Organisation and governance
The CSSF says the AIFM or where relevant the fund should ensure to address all aspects and risks of lending activity. In addition, they should have in place proper organisational and governance structures, processes and procedures; expertise and experience in origination, participation or acquisition activity plus the necessary technical and human resources, with a focus on credit and liquidity risk management within an overall risk management process; concentration and risk limitation mechanisms; clear policies regarding assets and investors such as loan and investor categories and avoidance of conflicts of interest; proper disclosure and transparency.
It is the responsibility of the AIFM or AIF itself to ensure the implementation of an appropriate approach for lending activity, to be evaluated by the regulator as part of its authorisation and ongoing supervision process.
ESMA prefers closed-ended loan funds
The CSSF’s guidance follows the issue by the European Securities and Markets Authority on April 11 of its opinion on key principles for a European framework on loan origination by funds for the European Parliament, Council and Commission, taking into account the existing approach of various member states. ESMA says a common EU framework would help create a level playing field in the sector and curb opportunities for regulatory arbitrage, and in turn encourage increased loan origination by investment funds.
ESMA notably says that because of the illiquid nature of loans, it believes loan-originating funds should be set up as closed-ended vehicles that do not offer investors the right to redemption of units on a regular basis. However, the authority says that provided certain conditions are fulfilled, the opportunity for repayment by the fund at the recommendation of its manager could be offered to investors on a non-preferred and equal basis during the life of the AIF. This could take place at fixed intervals, on the same lines at the procedures set out in the ELTIF Regulation.
The latest edition of the CSSF’s AIFMD FAQs can be consulted at http://www.cssf.lu/fileadmin/files/AIFM/FAQ_AIFMD.pdf. ESMA’s opinion on key principles for a European framework on loan origination by funds is available at https://www.esma.europa.eu/sites/default/files/library/2016-596_opinion_on_loan_origination.pdf.
Updated ESMA Q&A on the application of the AIFMD - 30 September 2014
The Q&A document, which offers responses to questions from the general public and national regulators regarding the practical application of the directive, was updated by ESMA in July and again at the end of September. Although primarily designed to ensure that regulators’ supervisory policies are in line with ESMA’s guidance, the answers also aim to provide alternative fund managers with clarity about the AIFMD rules. They do not constitute fresh requirements.
The Q&A now deals with seven topics: remuneration, notification of alternative investment funds, reporting to national regulators, notification of alternative fund managers, MiFID services under the AIFMD, depositaries, and calculation of leverage.
As regards reporting to national regulators, ESMA’s new answers deal with issues including reporting of derivative trade volumes, repo trades, FX spot trades, cross-currency interest rate swaps, the assessment of “substantial” leverage, rehypothecation of collateral, and the currency denomination for reporting on principal markets and financial instruments in which they trade.
The latest additions to the document clarify a number of points relating to regulatory reporting:
• Non-EU managers marketing funds in Europe must continue to report to EU regulators after the marketing period has ended, as long as they still have investors from those jurisdictions.
• Frequency of reporting to national regulators for alternative managers is calculated according to all funds managed or marketed in the EU, not the funds marketed in a particular member state.
• Managers should use the total value of assets under management calculated according to Article 2 of the implementing regulation, rather than NAV, in reporting information under questions 48 and 86 to 93 of the consolidated reporting template.
• The value of the five main instruments traded by the fund should be calculated according to Article 2 of the implementing regulation and not Article 3 of the AIFMD.
• If a fund’s final NAV is not available by the regulatory reporting deadline of 30 or 45 days after the end of the reporting period, managers should use estimates of the fund’s NAV and send updates afterwards if the final NAV is different.
• The position type of a derivative instrument (long or short) should be determined by reference to the exposure to the derivative’s underlying – so a long position on a put option should be reported as short, and a short position on a put option as long.
• Managers should adopt a conservative approach in reporting information on portfolio liquidity and take into account any delay in receiving the proceeds of a sale on a cash account if it has a non-negligible impact on the fund’s liquidity profile.
• Managers should include all existing cash accounts when reporting on the total number of open positions; they should use market value when reporting on the value of securities borrowed for short positions; they should report information on turnover of financial derivatives based on both market and notional values; and they should treat bank overdrafts as short positions under ‘cash and cash equivalent’ when reporting on individual exposures.
In the area of depositary requirements, the clarifications cover cash monitoring and reconciliation obligations, verification of compliance by the fund and manager with anti-money laundering, employment law and non-management related contractual obligations, verification of ownership of derivatives, custody requirements regarding interests in other funds, and the definition of the close of the business day.
Regarding calculation of leverage, ESMA has clarified that debt raised by financial structures controlled by private equity funds for the acquisition of assets should be included in the calculation of leverage where the structure is specifically set up for that purpose. However, it should not be included in cases where the fund does not have to bear losses beyond its investment in the structure, nor should debt raised by unlisted companies or issuers subject to the same proviso, even where the debt is raised to pay a dividend enabling the financial structure to repay its acquisition debt.
In a new section on delegation, ESMA says that when assessing whether delegation of portfolio management and/or risk management by the alternative fund manager results in the AIFM becoming a letterbox entity under Article 20 of the directive, the assessment should be made at the level of each individual fund, rather than the manager.
ESMA unveils AIFM Directive supervisory pact with 34 non-EU regulators
The European Securities and Markets Authority has approved co-operation arrangements between EU securities regulators, with responsibility for the supervision of alternative investment funds including hedge funds, private equity and real estate funds, and 34 of their global counterparts.
ESMA has negotiated memorandums of understanding on behalf of the 27 EU member states’ securities regulators, including Luxembourg’s CSSF, as well as their counterparts from Croatia, Iceland, Liechtenstein and Norway as members of the European Economic Area.
The co-operation arrangements will help EU regulators to supervise efficiently the way non-EU alternative fund managers comply with the rules of the Alternative Investment Fund Managers Directive.
They are a precondition of allowing non-EU managers access for their funds to EU markets or to perform fund management functions on behalf of EU managers; and of EU managers being allowed to delegate depositary and other functions to service providers outside the union.
These arrangements take effect from July 22, the deadline for AIFM Directive adoption into the national law of EU member states, and will facilitate the exchange of information, cross-border on-site visits and mutual assistance in the enforcement of the regulatory rules.
They will apply to non-EU managers that manage or market alternative funds within the EU and to EU fund managers that manage or market EU-domiciled alternative funds outside the union. The arrangements also cover co-operation required for the cross-border supervision of depositaries and other entities to which alternative managers delegate functions.
The agreements will enable EU and non-EU authorities to supervise fund managers that operate on a cross-border basis both within the union and outside. EU regulators will be able to share relevant information received from their non-EU counterparts with other EU regulators, ESMA and the European Systemic Risk Board, subject to appropriate safeguards.
While ESMA has negotiated the MoUs centrally, they are bilateral agreements that still need to be concluded individually between each EU regulator and non-EU regulators. Since the actual supervision of alternative fund managers is undertaken by national regulators, it is up to each regulator to decide with which non-EU authorities it wishes to sign an MoU. The CSSF has signed an MoU with each of the 34 regulators that has negotiated an agreement with ESMA.
The first batch of agreements concluded by ESMA are with the securities regulators of Albania, Australia, Bermuda, Brazil, the British Virgin Islands, Canada (the provincial regulators of Alberta, Quebec and Ontario as well as the Superintendent of Financial Institutions), the Cayman Islands, Dubai, Guernsey, Hong Kong (Hong Kong Monetary Authority and Securities and Futures Commission), India, the Isle of Man, Israel, Jersey, Kenya, Malaysia’s Labuan Financial Services Authority, Mauritius, Montenegro, Morocco, Pakistan, Serbia, Singapore, Switzerland, Tanzania, Thailand, the United Arab Emirates and the United States (Federal Reserve Board, Office of the Comptroller of the Currency and Securities and Exchange Commission).
The most notable omission from the list is the US Commodity Futures Trading Commission. However, ESMA says it will continue to negotiate MoUs with further non-EU countries with the aim of beating the July 22 deadline.
ESMA consultation paper of May 24 on AIFM Directive reporting obligations
The European Securities and Markets Authority has published a consultation paper on its proposed guidelines for national regulators on the reporting obligations placed on alternative fund managers under Articles 3 and 24 of the Alternative Investment Fund Managers Directive.
The guidelines have been drawn up to assist the national securities market regulators of European Union member states by providing clarification on the information that managers should provide to their regulators, the timing of reporting, and the procedures to be followed when managers move from one reporting obligation to another.
The consultation paper also includes the reporting template set out in Regulation 231/2013, and a diagram summarising managers’ reporting obligations, depending on the total value of their assets under management and the nature of the alternative investment funds they manage or market in the EU.
If ESMA’s current recommendations are adopted, managers that fall outside the scope of the full AIFM Directive authorisation requirement, with assets of less than €100m, or €500m if unleveraged and with a five-year lock-up, will be required to report once a year, by the last business day of January for the previous year.
Alternative managers falling within the authorisation requirement with assets between €100m and €1bn will have to report half-yearly, by the last business day of July and January respectively for the first and second halves of the year, and managers running more than €1bn in assets will have to report quarterly at the end of April, July, October and January.
In addition, reporting is required quarterly for each alternative fund with assets greater than €500m. Reporting must be made annually for all unleveraged funds investing in non-listed companies and issuers with the aim of gaining control, a measure targeting private equity vehicles. Reporting on behalf of funds of funds an benefit from an extension of up to 15 days beyond the deadlines set out by ESMA.
The first reporting period for all existing alternative managers and any others authorised or registered between July 23 to December 31, 2013 will cover this period, with reporting due by January 31, 2014, after which managers will follow the frequency laid down for the level of assets they run.
The paper, which also provides stakeholders with detailed IT guidance for XML filing, is accompanied by the publication of the reporting XSD schema (ESMA/2013/599) that alternative fund managers will have to use to report the information under Articles 3 and 24 to national regulators. ESMA is also seeking feedback from stakeholders on the reporting schema.
The authority says it will consider all comments received by July 1. It will use feedback from the consultation in finalising the guidelines on reporting obligations under Articles 3 and 24 of the directive.
