The European Commission has recently held a consultation to review the current regulatory framework applicable to UCITS depositaries and to introduce provisions on remuneration for UCITS managers. The object of the consultation was to gather evidence on any foreseen costs and benefits relating to the main changes that the Commission envisage making in those areas. Responses to this consultation have revealed wide support for the Commission’s initiatives, which are perceived as significant and positive steps forward in order to improve investor protection—notably through a more harmonised EU regulatory framework—and to enhance fair competition between all UCITS providers.

The responses to the consultation highlighted the following main conclusions:  

  • With respect to UCITS depositary functions, clarification of UCITS depositaries duties and the liability regime is perceived as the key policy priority given the role that UCITS depositaries exercise in investment protection, and more specifically:  
    • Alignment with AIFMD. The UCITS V review initiative needs to be conducted in accordance with relevant requirements of the AIFMD in order to enhance consistency in the regulatory framework applicable to the depositary function; responses also advocated the use of consistent terminology between the AIFMD and the UCITS regimes, although a simple alignment with the AIFMD was not thought to be appropriate as UCITS investors obtained through the process of fund passporting are mainly retail investors.  
    • The liability regime. The two most controversial aspects of the feedback related to (i) the reference to “force majeure” in the Commission’s consultation enabling a discharge of liability on the part of the UCITS depositary; and (ii) the obligation to return “lost” assets without delay (where according to the AIFMD standards, depositaries also need to return “lost” assets without undue delay). In this context, a majority of respondents highlighted the fact that the key outstanding issue is to determine when an asset can be considered as “lost”.  
    • UCITS holders’ rights. The UCITS holders’ rights should be clarified and aligned, regardless of the legal form of an UCITS fund. Some respondents also suggested that the Commission should introduce UCITS class actions in order to ensure that retail investors can benefit from all existing legal tools to protect their interests.
    • Supervision. This was highlighted as being essentially a single market issue in responses to the consultation. The majority of stakeholders believe that the competencies of supervisors should be further harmonised and that competent national authorities should be allowed to enforce EU rules in a more effective and harmonised manner.  
  • On managers’ remuneration policy, the majority of the responses stressed that remuneration rules should be adjusted to the UCITS model, and some suggested that the rule that a substantial portion of variable remuneration should consist of units or shares of the fund or investment company concerned is simply not suitable in a UCITS environment.  

These responses will now be taken into account in an impact assessment that is to be produced by the Commission and published with its proposal for amendments to the UCITS Directive in July 2011.  

The MiFID Review

HM Treasury in the UK (“the Treasury”) published on 9 February 2011 its joint response with the UK’s Financial Service Authority (“the FSA”) submitted on the European Commission’s consultation on the review of MiFID. (The Commission published its consultation on amending this Directive (2004/39/EC) on 8 December 2010 and it closed to public responses on 2 February 2011).

In their response, the Treasury and the FSA noted with surprise the short consultation period and suggested that this is not conducive to sound policy making by the Commission nor to the production of carefully considered legislative proposals. (However, some commentators have pointed out that the Commission has embarked on a hidden agenda of steam-rolling through a series of financial services measures, normally in the form of new Regulations rather than directives and with minimal involvement of the European Parliament in order to achieve closer harmonisation in the internal market for financial services in the EU usually by exploiting the process of qualified majority voting to achieve more political integration than hitherto in response to the continuing financial crisis in Europe).

In their response, the Treasury and the FSA provide responses to some of the key questions raised in the consultation and list their key concerns include those relating to small and medium sized enterprises (“SMEs”), investor protection, third-country provisions, automated trading, commodities and transparency. The Commission will now consider consultation responses and prepare a formal legislative proposal for adoption in mid-May 2011.

In more detail, key concerns raised by the UK authorities are:

  • SMEs. The Commission should consider updating a wider package of reforms targeted towards SME financing.  
  • Investor protection. The Commission should prevent product providers from in effect setting the remuneration levels for all firms providing investment advice, not merely those the advice of which is independent.  
  • Amendment validity. There were significant concerns about the validity of the amendments proposed to the existing execution only and client classification regimes.  
  • Third-country provisions. Strong reservations were expressed concerning the Commission’s proposal to introduce a third country regime within MiFID based on the principle of exemptive relief for equivalent jurisdictions since this was considered to undermine the principle of free movement of capital and the ability of EU firms to carry on international business outside the internal market of the EU without hindrance.  
  • Automated trading. the Treasury is currently sponsoring a research project to explore how computer-generated trading is likely to evolve in the future, which it hopes will inform the debate in this area, and urges that care should be taken by the Commission not to introduce measures based on the assumption that high-frequency trading (“HFT”) is in itself harmful to the markets (although others have argued that HFT, in certain circumstances, already infringes certain national market abuse regimes).  
  • Organised trading facilities (OTFs). The UK authorities believe there is no justification for the Commission’s proposed broad-ranging category of OTF. The European Commission’s new “catch-all” venue category of OTFs is now meeting with substantial resistance in both the UK and Germany, whilst the French appear to support what would become a fourth trading regime. In its consultation document the Commission suggests … “In order to address evolving market practices and technological developments, and mitigate harmful regulatory arbitrage, a broad definition in MiFID could be introduced to suitable regulate all organised trading occurring outside the current range of MiFID venues”. Any bilateral or multilateral facility or system operated by an investment firm or market operator “on an organised basis”, and not captured by the three existing venue categories (exchanges, multilateral trading facilities or firms acting as systematic internalisers) would thus fall into the proposed new OTF category, and be subject to MiFID’s transparency and other obligations. Broker crossing systems, for example, would be OTFs, as would future swap execution facilities and other venues for standardised derivative contracts. Only genuinely ad hoc, bilateral OTC trading as well as order-routing and execution-only facilities would then fall outside MiFID. In making this proposal, the Commission has gone beyond the technical advice it received last summer from the CESR.
  • Commodities. Particular concerns were expressed about the adoption of position limits proposed by the Commission, with a need for further evidence of their utility, and other proposals, such as position management counter market manipulation without risking possible unintended consequences (including harming market liquidity) which appear to be inherent in the Commission’s regulatory proposals for this sector
  • Transparency. It was considered essential that any transparency regime targeted at derivatives and corporate bonds should take account of the diverse range of asset classes, the trading characteristics of which can differ significantly and which require more tailored requirements than at present proposed, including incorporating a system of waivers.