UCITS Handbook How to Set up, Monitor, Manage and Distribute a UCITS Fund Edited by Christian Szylar )WILEY
Table of Contents Introduction Christian SZYLAR xiii Chapter 1. Setting up a UCITS Fund 1 Jerome WIGNY and Celine WiLMET 1.1. Introduction to the UCITS concept 1 1.1.1. A half-century of legal developments '<2 1.1.2. Legal/regulatory framework 3 1.1.3. EU passport/brand 5 1.2. Legal forms and structures 5 1.2.1. Legal forms available 5 1.2.2. Capital requirements 8 1.2.3. Multicompartment/class structures 9 1.2.4. Management 11 1.2.5. Choosing between legal forms and structures 16 1.3. Issue/redemption of shares/units 17 1.3.1. Investors 17 1.3.2. Open- versus closed-ended 18 1.3.3. Issue/redemption price 18 1.3.4. Valuation of assets 18 1.3.5. Suspension of issues/redemptions 19 1.4. Parties involved 20 1.4.1. Promoter 20 1.4.2. Central administration 22 1.4.3. Depositary 23 1.4.4. Auditor 25 1.4.5. Investment manager 26 1.4.6. Investment adviser 27
vi UCITS Handbook 1.4.7. Distributor 27 1.5. Legal documentation 27 1.5.1. Prospectus 27 1.5.2. Key investor information document 28 1.5.3. Articles of incorporation/management regulations 29 1.5.4. Agreements with service providers 32 1.5.5. Other documents 33 1.6. Reporting obligations 33 1.7. Expenses 34 1.7.1. Formation expenses. ~. 34 1.7.2. Ongoing expenses 34 1.7.3. Prospectus disclosure 35 1.8. CSSF authorization 35 1.8.1. Approval process" 35 1.8.2. Timing 38 1.8.3. Withdrawal of CSSF approval 38 1.9. Incorporation process 39 1.9.1. Investment company 39 1.9.2. FCP 40 Chapter 2. UCITS Management Companies 41 Jerome WiGNY and Celine WiLMET 2.1. Introductory comment 41 2.2. Luxembourg legal/regulatory framework 42 2.3. Conditions for setting up a Chapter 15 Management Company 43 2.3.1. CSSF approval 43 2.3.2. Functions 44 2.3.3. Capital requirements 48 2.3.4. Legal forms 50 2.3.5. Management 50 2.3.6. Auditor 52 2.3.7. Shareholders 54 2.3.8. Registered office and central administration 54 2.4. Operating conditions applicable to Luxembourg management companies 55 2.4.1. Organizational requirements 55 2.4.2. Conflicts of interest 61 2.4.3. Rules of conduct 62 2.4.4. Risk management 63 2.5. CSSF supervision 63 2.5.1. Approval process 63 2.5.2. CSSF approval and inclusion on the list 69
Table of Contents vii 2.5.3. Reporting to the CSSF 69 2.5.4. CSSF taxes 70 2.5.5. Withdrawal of CSSF authorization 70 2.6. Management company passport 71 2.6.1. Notification procedure 71 2.6.2. Cooperation agreement 72 2.6.3. Supervision 74 Chapter 3. Risk Management in the Context of UCITS IV 77 Thierry L6PEZ and Benjamin GAUTHIER --' 3.1. Introduction. 77 3.2. Regulator expectations 78 3.2.1. From European directives to local regulation 78 3.2.2. Risk management requirements 80 3.3. Market risk 81 3.3.1. Definition 81 3.3.2. How to measure market risk 81 3.3.3. Regulator expectations 82 3.3.4. Risk profiling 83 3.3.5. The commitment approach 84 3.3.6. Value at risk (VaR) 94 3.3.7. Global exposure: VaR versus commitment 106 3.3.8. Leverage 108 3.4. Counterparty risk 109 3.4.1. Definition 109 3.4.2. Regulator expectations 109 3.5. Liquidity risk management 110 3.5.1. Definition 110 3.5.2. Regulator expectations Ill 3.5.3. How to approach liquidity risk in the context of investment funds. Ill 3.5.4. Methods and techniques to measure and monitor liquidity risk (asset side) 112 3.5.5. Methods and techniques to measure and monitor liquidity risk (liability side) 116 3.5.6. Limiting redemptions 120 3.6. Operational risk 120 3.6.1. Definition 120 3.6.2. Regulator expectations 120 3.6.3. How to approach operational risk for UCITS 121 3.7. Internal risk limits 124 3.8. Disclosure 124
viii UCITS Handbook Chapter 4. Counterparty, Issuer and Concentration Risk Management for UCITS funds 127 Romain BERRY 4.1. Introduction: no institution is "too big to fail" 127 4.1.1. Background and definitions 127 4.1.2. Managing counterparty risk within a UCITS framework 130 4.2. Measuring counterparty risk for a UCITS fund 131 4.3. Controlling and mitigating counterparty risk of a UCITS fund 132 4.3.1. Limits -..._ 132 4.3.2. Netting 138 4.3.3. Collateral management 143 4.3.4. Hedging 146 4.3.5. Early termination and other legal tools 148 4.3.6. Recouponing 151 4.3.7. Guarantees 152 4.3.8. Central counterparty clearing house (CCCH) 152 4.4. Policy and corporate governance guidelines to monitor counterparty risk 153 4.5. Measuring future counterparty credit exposure 156 4.5.1. Definitions 157 4.5.2. Formulation 161 4.6. Managing issuer risk 166 4.6.1. UCITS regulations on issuer risk 166 4.6.2. Measuring issuer risk 168 4.6.3. Stress testing issuer risk 170 4.6.4. Hedging issuer risk 174 4.7. Concentration risk management 174 4.7.1. Concentration risk within the UCITS framework 175 4.7.2. Identifying concentrations in a fund 178 4.7.3. Tools to manage concentration risk 180 4.8. Conclusion: what lies in the future? 182 4.9. Bibliography 183 Chapter 5. UCITS - The Investment Limits 185 Andrew P. WHITE 5.1. Introduction 185 5.1.1. Definitions 185 5.1.2. Structure 187 5.2. Investment restrictions 189 5.2.1. Permitted investments 189 5.2.2. Maximum of 10% NAV in securities other than those explicitly allowed 193
Table of Contents ix 5.2.3. Maximum of 100% NAV global exposure 193 5.2.4. Maximum of 20% NAV in deposits made with the same body... 194 5.2.5. Maximum of 10% NAV OTC derivative counterparty risk exposure with approved banks 194 5.2.6. Maximum of 5% NAV OTC derivative counterparty risk exposure with counterparties other than approved banks 195 5.2.7. Maximum of 10% NAV in securities or money market instruments of the same issuer (except qualified institutions) 195 5.2.8. Maximum of 40% NAV in securities and derivatives of issuers in which more than 5% is invested in ~. 196 5.2.9. Maximum of 20% NAV in securities or money market instruments issued by the same body (except qualified institutions).... 199 5.2.10. Maximum of 35% NAV in government and public body securities 200 5.2.11. Maximum of 25% NAV for bonds issued by EU credit institutions subject by law to special public supervision designed to protect bond holders (covered bonds) 201 5.2.12. Maximum of 80% NAV in the covered bonds of issuers in which more than 5% is invested in 201 5.2.13. Maximum of 20% NAV in respect of investment in the same issuing group 202 5.2.14. Index-tracking: maximum of 20% NAV in securities or money market instruments of the same issuer (except qualified institutions)... 203 5.2.15. Index-tracking: Max 35% NAV in securities or money market instruments of the same issuer (except qualified institutions) for a single issuer 204 5.2.16. Minimum of six issues and maximum of 30% per issuance when more than 35% NAV is invested in a single public issuer 205 5.2.17. Maximum of 20% NAV in any one CIS 207 5.2.18. Maximum of 30% NAV in aggregate in non-ucits CIS 207 5.2.19. Significant influence of voting shares per single issuing body (excluding certain public bodies) 208 5.2.20. Maximum of 10% of non-voting shares per single issuing body (excluding certain public bodies) 208 5.2.21. Maximum of 10% of the debt securities of any single issuing body 209 5.2.22. Maximum of 25% of the units of any single CIS (excluding certain public bodies) 210 5.2.23. Maximum of 10% of money market instruments of any single issuing body 210 5.2.24. Six-month derogation 211 5.2.25. A fund may borrow up to 10% of NAV for temporary purposes 211
x UCITS Handbook 5.2.26. No uncovered sales of transferable securities, MMIs or other financial instruments 211 5.3. Look through 212 5.4. Market practices and specific cases 212 5.4.1. Trash ratio 212 5.4.2. VaR 213 5.4.3. Definition of transferable security 213 5.4.4. Borrowing 213 5.4.5. Other 214 5.4.6. Summary 7 214 5.5. Data issues 214 5.5.1. Specific issues 215 5.5.2. Data consistency 215 5.5.3. OTC data 216 5.5.4. Technology advances 217 5.5.5. Summary 217 5.6. Checking process 217 5.6.1. Ex-post 217 5.6.2. Ex-ante 222 5.7. Conclusion 224 Chapter 6. UCITS Distribution 225 Mark EVANS 6.1. Introduction and overview 225 6.2. Domestic distribution 228 6.2.1. France 228 6.2.2. Germany 229 6.2.3. Italy 229 6.2.4. Switzerland 229 6.2.5. UK 230 6.3. Cross-border distribution 230 6.3.1. Introduction 230 6.3.2. Development of the UCITS Directive 231 6.3.3. Key domiciles of cross-border UCITS 235 6.3.4. Attractiveness of domestic markets for cross-border distribution 237 6.3.5. Key target markets for cross-border UCITS distribution 238 6.4. The distribution process 241 6.4.1. Public distribution 241 6.4.2. Private placement 242 6.4.3. Fund wrappers 243 6.5. Distribution channels 244
Table of Contents xi 6.5.1. Introduction 244 6.5.2. Channel architecture 245 6.6. Distribution Channels 247 6.6.1. Banking: retail/private 247 6.6.2. Insurance/Bank-Insurance (bancassurance) 249 6.6.3. Fund platform growth and the role of intermediaries 249 6.6.4. Boutique Intermediaries 250 6.6.5. Independent Financial Advisors (IFA) 250 6.6.6. Markets to target 252 6.6.7. Appropriate products.-.-." 253 6.6.8. An effective marketing strategy 253 6.6.9. Fees to maximize sales 254 6.7. Distribution agreements, fees and payments 254 6.8. Future thoughts: UCITS in transition 259 Chapter 7. The UCITS Management Company and Delegation 261 Killian BUCKLEY and Ciara O' SULLIVAN 7.1. Introduction 261 7.1.1. Overview of chapter coverage 261 7.1.2. History of the organizational structure of a UCITS 262 7.1.3. Evolution to UCITS IV 263 7.1.4. UCITS IV organizational structure, conflicts of interest and rules of conduct 264 7.2. Roles and responsibilities within the organizational structure 272 7.2.1. The evolving role of the depositary 274 7.3. Reporting matrix-how parties interact for reporting 275 7.4. UCITS IV organizational framework - applying best practice 278 7.4.1. Driving best practice 278 7.4.2. MiFID-like requirements 279 7.4.3. Typical UCITS IV structure 279 7.5. Conclusion 283 Chapter 8. UCITS Taxation. 285 Andre PESCH, Romain JACQUES and Ludovic DEFLANDRE 8.1. Introduction 285 8.1.1. The contractual form: the Fonds Commun de Placement 286 8.1.2. The corporate form: investment company with variable or fixed share capital 286 8.2. Taxation of the fund 287 8.2.1. Corporate income and net worth tax 287 8.2.2. Registration duty. 288 8.2.3. Annual subscription tax 288
xii UCITS Handbook 8.2.4. Tax on dissolution 290 8.2.5. Indirect taxation 290 8.3. Taxation of investments made by UCIs 295 8.4. Taxation at the level of the UCI investor 297 8.4.1. Withholding tax 297 8.4.2. Luxembourg individual investor 298 8.4.3. Foreign investors 298 8.4.4. EU Savings Directive 298 8.4.5. Directors' fees 301 8.5. Management and advisory companies... 7 301 8.5.1. Corporate taxation 301 8.5.2. Indirect taxation 302 8.6. Impact of UCITS IV 305 8.6.1. General considerations 305 8.6.2. Additional queries and open points from a VAT point of view... 307 Chapter 9. Alternative UCITS 311 Christian SZYLAR 9.1. Introduction 311 9.2. The main drivers for packaging hedge fund strategies under UCITS.. 314 9.3. Alternative strategies under UCITS and challenges 317 9.3.1. What is an alternative UCITS? 317 9.4. The cost of liquidity on alternative UCITS returns 324 9.5. Financial derivative instruments 334 9.5.1. Swap 334 9.5.2. Contracts for difference 343 9.5.3. The forward contract 345 9.5.4. The futures contract 345 9.5.5. Options 347 9.5.6. Warrant 349 9.6. Conclusion : 350 Bibliography 353 List of Authors 355 Index 357