Investment Management – 2019 Regulatory Round Up

AIFMD

In March 2019 ESMA published a revised Q&A on the AIFMD (Alternative Investment Fund Managers Directive 2011/61) which provides additional clarification on the calculation of leverage under AIFMD. ESMA subsequently updated the section of the Q&A on depositaries in June 2019 and, on 4 December 2019, ESMA added one new Q&A on the AIFMD reporting to National Competent Authorities, which provides clarification on reporting requirements on liquidity stress tests for closed-ended unleveraged AIFs.

AML/CFT

In March 2019 the following regulations were signed into law:

• the European Union (Anti-Money Laundering: Beneficial Ownership of Corporate Entities) Regulations 2019 (the “Corporate Regulations”) and
• the European Union (Anti-Money Laundering Beneficial Ownership of Trusts) Regulations 2019 (the “Trust Regulations”).

Among other things, the Corporate Regulations required inscope corporate entities, including some funds, to deliver beneficial ownership information to the newly established Central Register by 22 November 2019. While the Trust Regulations require the trustees of certain express trusts to maintain and hold beneficial ownership information in an internal beneficial ownership register, they do not currently require such information to be reported to a central register. However, such a requirement is likely to be introduced in the near future, in order to comply with the EU’s Fifth Money Laundering Directive 2018/843.  See our related briefings here and here.

In September 2019 the Central Bank of Ireland (“CBI”) published its much-anticipated “Anti-Money Laundering and Countering the Financing of Terrorism Guidelines for the Financial Sector” which set out the CBI’s expectations on anti-money laundering and counter-terrorist financing compliance.

More recently, the European Union (Money Laundering and Terrorist Financing) Regulations 2019 amended the Criminal Justice (Money Laundering and Terrorist Financing) Act 2010. Among other things, the amendments include a new section 54(6A) which requires each “designated person” to have in place appropriate procedures for their employees, or persons in a comparable position, to report a contravention of the 2010 Act internally through a specific, independent and anonymous channel, proportionate to the nature and size of the designated person concerned.  See our related briefings here and here.

Brexit

In early 2019 the UK and EU authorities entered into MoUs which will facilitate their continued cooperation post-Brexit and alleviate the risk that Irish funds, Irish AIFMs, and Irish UCITS management companies will no longer be able to delegate their portfolio management to UK investment managers in the event of a hard Brexit.  However, Brexit still presents significant challenges for the investment fund industry. Moreover, it has led to significant changes in the financial services authorisation landscape, with increased emphasis being placed on issues such as governance, substance and resources.

Closet Indexing

In July, the CBI published the outcome of a review of UCITS funds on closet indexing (the “Review”) in the form of a “Dear Chair” letter. In the letter, the CBI highlighted key supervisory issues identified from the review and set out certain actions to be taken by UCITS to mitigate these issues. One of the CBI’s key findings arising from the Review was that investors were not always given sufficient or accurate information about the fund’s investment strategy in the Prospectus and KIID, affecting their ability to make an informed decision on whether or not to invest in the fund. In light of this finding, the CBI required all UCITS funds to consider the accuracy of their Prospectus and KIID and gave them until 31 March 2020 to make any resulting amendments.

The CBI also commenced supervisory engagements with each of those individual UCITS where specific issues were identified.

Closet indexing has also been a key focus for ESMA in recent years, and, at the end of March 2019, ESMA published revised Q&A setting out how it expects UCITS management companies to comply with the disclosure obligations relating to benchmarks and past performance set down in Commission Regulation (EU) No 538/2010.

Cross-border Distribution of Investment Funds

The EU’s new regulatory framework facilitating the cross-border distribution of collective investment undertakings was published in the EU’s Official Journal (the “OJ”) on 12 July 2019. The new framework, which is intended to provide clarity for fund managers that want to market their products across the EU comprises:

• Regulation 2019/1156 on facilitating cross-border distribution of collective investment undertakings; and
• Directive 2019/1160 which amends the UCITS Directive 2009/65 and AIFMD in certain respects

 The Regulation also extends the exemption for UCITS from the requirement to publish a Key Information Document under the PRIIPs Regulation until 31 December 2021.

For further information see our related briefing here.

EMIR

Regulation 2019/834 (“EMIR 2.1”), which amends EMIR, was published in the OJ on 28 March 2019. Among other things, EMIR 2.1 expands the definition of a “financial counterparty” (“FC”) to encompass certain additional categories of counterparties perceived to pose important systemic risk to the financial system, so that:

• every AIF established in the EU, or managed by an AIFM authorised or registered in the EU under AIFMD, is an FC and any AIFM established in the EU of such an AIF is also an FC. Previously, only AIFs managed by AIFMs authorised or registered under AIFMD were FCs; and
• central securities depositaries are now encompassed as FCs.

EMIR 2.1 also provides for a carve-out for:

• both UCITS and AIFs which are set up exclusively for the purpose of serving one or more employee share purchase plans; and
• an AIF that is a securitisation special purpose entity.

EMIR 2.1 makes a number of changes to the EMIR reporting obligation. In particular, in the case of a UCITS or AIF, the UCITS Management Company and AIFM, respectively, is now responsible and legally liable for reporting OTC derivatives contracts on behalf of that UCITS or AIF, as applicable, and for the correctness of the details reported. Moreover, FCs are solely responsible and legally liable for reporting trades with a non-financial counterparty that falls below the clearing thresholds and for ensuring the details reported are accurate. These changes apply from 18 June 2020.

See our related briefing here.

Governance

In 2019, the CBI commenced an assessment of how CP86 has been implemented across the funds sector. In the first phase of the thematic review, the CBI issued a questionnaire to over 300 Fund Management Companies, including UCITS management companies, AIFMs, self-managed UCITS and self-managed AIFs, which was followed by an analysis of the questionnaire responses, a desk-based review phase and onsite inspections. The CBI is likely to complete this body of work in Q1 2020 and will probably be communicating with industry in some form in the second half of next year.

Fitness, Probity and Accountability

In a “Dear CEO” letter, dated 8 April 2019, the CBI set out its expectations with regard to the fitness and probity regime. The purpose of the letter was to emphasise to inscope firms the extent of their obligations under the regime and to highlight some of the main areas of non-compliance. See our related briefing here.

The CBI also commented on a new proposed individual accountability framework in a number of speeches delivered over the course of 2019. The proposed framework, which will include a Senior Executives Accountability Regime, is intended to ensure clearer accountability by placing obligations on financial service firms and individuals within them to set out clearly where responsibility and decision making lies for their business. The General Scheme of the Central Bank (Amendment) Bill is expected to be published in the near future, following which the CBI will engage in a public consultation on the new regime. See our related briefing here.

Investment Firms Regulation and Investment Firms Directive

The EU has agreed a new bespoke prudential regime for investment firms composed of the Investment Firms Regulation 2019/2033 (the “IFR”) and the Investment Firms Directive 2019/2034 (the “IFD”), which were published in the EU’s OJ on 5 December 2019. The new regime categorises investment firms based on their nature, scale and complexity and subjects each category of investment firm to a differing set of requirements in respect of reporting, capital, liquidity, remuneration etc.

For most existing firms, the IFR and the IFD will replace the prudential requirements for investment firms set out in the Capital Requirements Regulation 575/2013 and the Capital Requirements Directive 2013/36. It will also amend the Markets in Financial Instruments Directive 2014/65 and the Markets in Financial Instruments Regulation 600/2014.

The new prudential regime will largely apply from 26 June 2021.

Investment Limited Partnership

In July 2019 the Government published the Investment Limited Partnerships (Amendment) Bill 2019 which could be concluded as early as Q1 this year.

Once the revised limited partnership framework becomes law, it will greatly enhance the attractiveness of the investment limited partnership structure for private equity managers and investors and will lead to significant growth within the sector. The updated framework will also contribute to achieving the Irish government’s aim to make Ireland a global location for private equity funds. See our related briefing here.

Liquidity

On 7 August 2019 the CBI wrote a “Dear Chair” letter, reminding the chairs of fund management companies (“FMC”) of the importance of effective liquidity management and to observe their obligations under the UCITS Directive and AIFMD. The letter stated that the designated person responsible for fund risk management should undertake a review of the FMC’s risk management framework, to take account of the issues highlighted in the letter and in ESMA’s then draft Guidelines on liquidity stress testing (see below).

In September 2019 ESMA published Guidelines on liquidity stress testing in UCITS and AIFs.  The Guidelines set out a minimum set of standards that apply to EU fund managers when conducting liquidity stress testing (“LST”) in funds and provide guidance on how fund managers can improve their LST procedures, including by determining the appropriate use of haircuts, frequency and scenario design, and the use of historical data.  See our related briefing here.

Shareholder Rights Directive

Member States were required to transpose the amendments to the Shareholders Rights Directive 2007/36 set out in Directive 2017/828 into national law by 10 June 2019. However, Ireland has not yet transposed the relevant amendments. For further information on Directive 2017/828 see our related briefing here.

Sustainable Finance

There were a number of developments in this area over the course of the year. In particular, on 9 December 2019, two related regulations were published in the OJ, namely:

• Regulation 2019/2088 on sustainability‐related disclosures in the financial services sector (the “Disclosure Regulation”); and
• Regulation 2019/2089 amending Regulation (EU) 2016/1011 as regards EU Climate Transition Benchmarks, EU Paris-aligned Benchmarks and sustainability-related disclosures for benchmarks (the “Low Carbon Benchmarks Regulation”).

The Disclosure Regulation establishes a consistent set of rules on how financial market participants, including investment funds, inform investors on the integration of ESG risks and opportunities. It will apply from 10 March 2021.

The Low Carbon Benchmarks Regulation amends the Benchmarks Regulation by introducing rules establishing and governing the provision of low carbon and positive carbon impact benchmarks. It also requires most benchmark administrators to make certain ESG related statements. Following the publication of the Regulation, ESMA updated its Q&A on the Benchmarks Regulation to clarify the transitional provisions applicable to third-country benchmarks.

In addition, in December 2019, the EU's Council of Ministers and the European Parliament reached political agreement on an EU-wide classification system, or "taxonomy", which will provide businesses and investors with a common language to identify what economic activities can be considered environmentally sustainable.

UCITS Directive/Regulations

The Central Bank (Supervision and Enforcement) Act 2013 (Section 48(1))(Undertakings for Collective Investment in Transferable Securities) Regulations 2019 (the “CBI Regulations”), which replaced the earlier Central Bank UCITS Regulations, were published an the end of May 2019, following on from an earlier CBI consultation. Among other things, the CBI Regulations:

• introduce a number of new requirements that apply to UCITS Share Class Provisions; and
• codify the CBI’s Guidance on UCITS Performance Fees.

Some days later, on 6 June 2019, the CBI issued the 26th edition of the Central Bank UCITS Q&A which included Q&A in relation to the newly issued CBI Regulations and which were updated to account for the numbering of those regulations. See our related briefing here.

On 16 July 2019 ESMA launched a public consultation on draft guidelines on performance fees under the UCITS Directive with the aim of harmonising the way in which performance fees can be charged to the UCITS and its investors while ensuring common standards of disclosures. The consultation closed on 31 October 2019.

On 13 August 2019 the European Union (Undertakings for Collective Investment in Transferable Securities) (Amendment) Regulations 2019 were enacted to amend the European Communities (Undertakings for Collective Investment in Transferable Securities) Regulations 2011 (the “UCITS Regulations”). The 2019 Regulations amend a number of the provisions of the UCITS Regulations, including Regulations 33 (Safe-keeping of assets) and 37 (Prohibition against single company acting as both management company and depositary).