The FSA has published a speech made by Dan Waters, FSA Asset Management Sector Leader, entitled The future of financial regulation - Insights from a regulator.
In his speech Waters discusses:
- The developing European regulatory framework for fund management.
- Asset management and the current financial crisis.
- The draft Directive on Alternative Investment Fund Managers (AIFM Directive).
Waters begins his speech by discussing the developing European regulatory framework for fund management. He notes that the European regulatory framework marks the move to a more centralised and uniform setting of standards across European financial markets and that the UK Government and the FSA support this move.
Waters states that it is not completely clear what regulatory changes may be implied or required from the role played by the asset management industry in the crisis. This is on the basis that the asset management industry is diverse and its role in the crisis is not straightforward. He does mention that the FSA concurs with the view expressed in the Larosière report that the hedge fund industry did not play a major role in the emergence of the financial crisis. However, the deleveraging of these funds may have played a role in exacerbating financial instability during the crisis, but this occurred at a time when the banks (which operated at much higher levels of leverage) were doing the same thing. The FSA nevertheless believes it important that regulators have information about the trading of hedge funds, sufficient for them to take a view of the potential systemic impact of any fund or cluster of hedge funds on the wider financial markets or particularly vulnerable sectors of the market.
On the AIFM Directive Waters makes a number of points including:
- The speed at which the draft had been put together has yielded a Directive whose scope and content are a surprise and in many cases a complete shock to the markets.
- The high level impact analysis could not have addressed the detailed impacts of the AIFM Directive's scope.
- The Commission should listen hard to affected stakeholders as the debate around the AIFM Directive proceeds.
- In addition to the core activities of managing and administrating investment funds the AIFM Directive also addresses tax reporting, portfolio company disclosure, employee protection and short selling. The FSA finds it highly unusual to tackle issues with general market applicability through a Directive targeted at the funds industry alone.
- One particular aspect of the AIFM Directive which has sparked significant debate from the hedge fund industry has been the proposal to provide the Commission and national regulators with the ability to impose hard limits on the level of leverage alternative investment fund managers can employ. The FSA would be very worried that concern about leverage from a systemic point of view might morph into a desire to design prescriptive product regulation across the board for hedge funds. The UCITS III Directive has significant constraints on leverage but the FSA does not feel that the same approach is appropriate for hedge funds.
- The organisational requirements imposed on depositaries by the AIFM Directive are higher than that in the UCITS Directive and have a number of damaging and unjustified consequences. This includes the number of institutions providing depositary services being reduced because the economics drive consolidation or existing providers are unable to assume higher levels of liability.
- The transparency requirements in the AIFM Directive will not be a step change for the hedge fund industry, but that this is not the case for other sectors of the market such as private equity.
- A significant change proposed by the AIFM Directive is the requirement for the jurisdictions of managers based outside the EU to meet certain equivalence tests before being allowed to market alternative investment funds to EU investors. The FSA believes that to impose an outright ban on third country funds and the managers would extinguish valuable, open and successful markets without justification. It would also appear protectionist and offends the principle of subsidiarity. It may also invite retaliation from other global markets, which is the opposite dynamic that regulators want to create in the current market conditions.
View The future of financial regulation - Insights from a regulator, 24 June 2009