The Undertaking for Collective Investment in Transferable Securities (“UCITS”) directive, that was originally adopted in 1985, was created to facilitate the creation of a single European Market in retail funds. The latest update of this framework is UCITS III, which came into force in 2004.
Traditionally, UCITS have been dominated by long-only managers. Since 2007 the full implications of UCITS III have become apparent, and the UCITS space has seen UCITS offerings using hedge fund-type strategies.
UCITS III funds currently are classified either as “sophisticated” or “non-sophisticated.” Non-sophisticated funds operate as long-only funds, while sophisticated funds may invest in a broader range of asset classes, including derivatives and other strategies.
UCITS III with its more liberal investment requirements allows hedge fund managers the ability to use similar strategies and techniques within the UCITS framework, although with some important distinctions, including a prohibition against shorting. Whereas a hedge fund can physically short sell a stock, a UCITS III fund is not permitted to do so. By investing in a derivative of a particular stock, however, an asset manager of a UCITS fund can achieve the same shorting effect and comply with the rules. Other major differences include the requirement for a UCITS fund to provide twice monthly liquidity at a minimum, prohibition on leverage of more than 100% through the use of financial derivative instruments, tougher counterparty risk exposure limits and increased transparency.
UCITS IV is due to come into force across EU Member States in July 2011.
The principal features of this legislation are:
- Simplification of the procedures for cross-border distribution to minimize the ability of Member States to impose their own local registration requirements.
- Management company passport permitting UCITS authorized in one Member State to be managed by a management company established in another Member State. Presently, a management company can only manage a UCITS when it is domiciled in the same Member State as the fund.
- Replacement of the UCITS III simplified prospectus with a key investor information document designed to present information in a simplified and more uniform manner.
- Common rules governing UCITS fund mergers across Member States.
- Provisions which allow for UCITS feeder funds or master feeder structures.