The hysteria which greeted the first draft of the AIFMD in 2009 is hard to recapture now. This is partly because AIFMD has grown wearily familiar, but also reflects a growing acceptance that its measures on remuneration, regulatory reporting and depositary liability do not, after all, presage the end of business as we know it.
The Alternative Investment Fund Managers Directive (AIFMD) has undergone a number of changes since it was first proposed in April 2009. Its initial reception was alarm and dismay, whether the firm affected was a fund manager, or a private equity fund manager, or a real estate fund manager, or an investor, or a prime broker, or a fund administrator, or an IT vendor. Even lawyers and consultants, who normally warm to the prospect of onerous, contradictory and incomprehensible rules and regulations, were flummoxed.
A chorus of opposition warned that the AIFMD doomed the European alternative investment management industry to a slow extinction, as managers from outside the European Union (EU) lost access to European capital and European capital lost access to non-EU investment strategies. There were predictions that the costs of investing would exceed the returns as managers were forced to purchase depositary services and tell all to regulators. The finest investment talent, regulators were warned, would decamp to Switzerland, Singapore, Hong Kong, New York and even the Channel Islands rather than endure restrictions on their remuneration.
Little of these prognostications materialised. Parts of Brevan Howard decamped to Jersey and Switzerland, and Guy Hands went to Guernsey, but those decisions probably had more to do with a United Kingdom government decision in 2010 to raise the top rate of income tax to 50 per cent. Firms pondering a switch to Asia found a regulatory welcome, but investors hard to find. In Switzerland, investors abandoned alternative investment strategies in the wake of Madoff, and have never come back on quite the same scale. Besides, the Swiss government pursues a formal policy of trading assent to EU legislation for access to EU markets, and has even passed its own version of the AIFMD (see [“Froeriep article,”]). Lobbying by investment banks as well as industry associations such as the Alternative Investment Management Association (AIMA) had some success in blunting the impact of the AIFMD even inside the EU. Optimists now talk of an AIFM fund developing into a global brand fit to compare with that less contentious tool for regulation of the mutual fund industry, the Undertakings for Collective Investmentin Transferable Securities (UCITS) Directive.
Remuneration curbs and disclosure obligations were imposed on firms which are authorised to market their funds in the EU under Articles 13 and 22 and Annex II of the AIFMD (see Boxes 1 and 2). But the regulator in the most important alternatives market in Europe – the Financial Conduct Authority (FCA) of the United Kingdom – transposed the requirements of the AIFMD in a relatively generous way.
The FCA announced in September 2013 it would allow firms to adopt a “proportional” approach to remuneration, by which it meant paying staff “in a way and to the extent that is appropriate to its size, internal organisation and the nature, scope and complexity of its activities.”1 The remuneration curbs do not even apply to smaller managers, defined as those with unleveraged assets under management (AuM) of less than £5 billion and those with a leveraged AuM of less than £1 billion.
The Malta Financial Services Authority (MFSA) went even further than the FCA in blunting the impact of the remuneration provisions of the AIFMD by applying the rules to the AIFM and not to delegates of the AIFM. In other words, the delegate actually taking the investment decisions – in most cases, a London-based manager – is not subject to the remuneration rules of the AIFMD at all. Being employed by fund managers rather than banks, they are not even caught by the remuneration restrictions embodied in version IV of the Capital Requirements Directive (CRD).
Similarly, the regulatory reporting provisions set out in the template version of Annex IV of the AIFMD proved less burdensome than many managers feared. True, Annex IV asks impertinent questions about investment portfolios, leverage ratios, exposures, risks, liquidity and investment strategies, but fears it would take weeks to prepare submissions which might - depending on the size of the firm - be requested as often as quarterly have subsided. This is partly because Forms PF and CPO-PQR, submitted to the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC) respectively. Provided a reassuring pair of dress rehearsals. A number of service providers, including fund administrators, technology vendors and regulatory compliance consultancies, have also developed meaningful forms of assistance that made it easier to gather and submit the data to regulators consistently and in the right format
Even anxiety about the cost and operational complexity of the strict liability for losses assumed by the depositary banks has melted away. Depositary banking, as envisaged by the AIFMD, appeared at first to be both unaffordable (prices of 30-40 basis points were being quoted in 2012, and of 15 basis points as recently as the summer of 2013) and latterly impossible to implement (because the custodian banks that have taken on the depositary work refused to accept liability for assets in custody with prime brokers, threatening to make it impossible for hedge fund managers in particular to continue to use prime brokers).
Both issues have subsided. In the major markets, provided they trade orthodox assets, fund managers are paying between one and a half and two basis points on top of any existing custody fees for full depositary services. If they buy other services from a universal bank, such as prime brokerage and fund administration, they might even pay nothing. And although it took prolonged and difficult negotiations between prime brokers and global custodians to settle the question of liability for assets in custody with prime brokers (see “Prime brokers lose an argument,” page 26) a compromise based on indemnities and discharges does seem to have achieved acceptance by both sides.