Hedge funds and private equity funds — rules for managers
Alternative investment fund managers — Directive 2011/61/EU
It establishes a legal framework for the authorisation, supervision and oversight of managers of a range of alternative investment funds (AIFM), including hedge funds and private equity.
Exclusions from scope. The directive lists a number of entities to which it does not apply, including:
— holding companies (as defined in the directive);
— management of pension funds;
— employee participation or savings schemes;
— supranational institutions;
— national central banks; and
— insurance contracts.
Passport. AIFMs can ‘passport’ their services in different EU countries on the basis of a single authorisation. Once an AIFM is authorised in one EU country and complies with the rules of the directive, the AIFM is entitled to manage or market funds to professional investors throughout the EU.
Authorisations. To operate in the EU, fund managers are required to obtain authorisation from the competent authority of their home EU country. To obtain authorisation, AIFMs have to hold a minimum level of capital in the form of liquid or short-term assets.
Depositary. AIFMs are required to ensure that the funds they manage appoint an independent depositary, for example a bank or investment firm, that is responsible for overseeing the fund’s activities and ensuring that the fund’s assets are appropriately protected.
Risk management and prudential oversight. AIFMs are required to assure the competent authority of the robustness of their internal arrangements with respect to risk management. This includes a requirement to disclose, on a regular basis, the main markets and instruments in which they trade, their principal exposures and their concentrations of risk.
Treatment of investors. In order to encourage diligence amongst their investors, AIFMs are required to provide a clear description of their investment policy, including descriptions of the types of assets and the use of leverage. An annual report for each financial year has to be made available to investors on request.
Leveraged funds. The directive introduces specific requirements with regard to leverage, i.e. the use of debt to finance investment. Competent authorities have the right to set limits to leverage in order to ensure the stability of the financial system.
Private equity funds. Where an AIF acquires control of a non-listed company or an issuer, the AIFM is subject to the anti-asset stripping provisions. For a period of 2 years, the AIFM must act against any distribution, capital reduction, share redemption or acquisition of own shares by the company.
Funds and managers located in non-EU countries. Subject to conditions set out in the directive, the ‘passport’ may be extended to non-EU AIFMs and to the marketing of non-EU funds, managed by either EU or non-EU AIFMs.
Opt-outs for smaller funds. EU countries may choose not to apply the directive to smaller AIFMs, i.e. funds with managed assets below €100 million if they use leverage and with assets below €500 million if they do not. Smaller funds are however subject to minimum registration and reporting requirements.
A number of delegated and implementing measures, adopted subsequently by the European Commission, offer technical guidance on the application of the directive.
Directive 2011/61/EU of the European Parliament and of the Council of 8 June 2011 on alternative investment fund managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No 1060/2009 and (EU) No 1095/2010 (OJ L 174, 1.7.2011, pp. 1-73)
It must be transposed into EU countries’ national laws by 22 July 2013.
The successive amendments and corrections to Directive 2011/61/EU have been incorporated in to the original document. This consolidated version is of documentary value only.
Commission Delegated Regulation (EU) No 231/2013 of 19 December 2012 supplementing Directive 2011/61/EU of the European Parliament and of the Council with regard to exemptions, general operating conditions, depositaries, leverage, transparency and supervision (OJ L 83, 22.3.2013, pp. 1-95)
Report from the Commission to the European Parliament and the Council on the exercise of delegation of powers to the Commission to adopt delegated acts pursuant to Article 56 of Directive 2011/61/EU of 8 June 2011 (COM(2015) 383 final, 3.8.2015)
Improving securities settlement in the EU
Regulation (EU) No 909/2014 on improving securities settlement in the European Union and on central securities depositories
It aims to harmonise the timing and conduct of securities settlement in the European Union (EU) and the rules for central securities depositories (CSDs)* which operate the settlement infrastructure.
It is designed to increase the safety and efficiency of the system, particularly for intra-EU transactions.
The regulation introduces:
shorter settlement periods: in general, these should take place no later than the second business day after the trading occurs;
an obligation to record in book-entry form* all transferable securities admitted to trading or traded on the trading venues;
settlement discipline: CSDs must operate a penalty system, including cash fines, to deal with settlement failures.
EU countries’ national authorities:
authorise and supervise CSDs. This includes a review on at least an annual basis;
exchange information and cooperate with each other and the European Securities and Markets Authority (ESMA).
have robust governance arrangements, a clear organisational structure, internal controls and sound administrative and accounting procedures;
ensure senior management is of sufficiently good repute and experience;
establish user committees for each securities settlement system they operate;
maintain for at least 10 years all records of their services and activities;
remain fully responsible for any work they outsource;
display transparency by publicly disclosing the prices and fees involved in the core services they provide;
have sufficient capital to be adequately protected against operational, legal, custody, investment and business risks;
secure additional authorisation before providing any banking-type ancillary services.
CSDs in a non-EU country may operate through an EU-based branch, provided they meet certain requirements.
ESMA maintains a publicly available register of each authorised CSD.
Alongside the right to impose criminal sanctions, EU countries’ competent authorities have the power to apply appropriate administrative sanctions and other measures for an infringement.
Book-entry form requirements (Article 3(1)) apply from 1 January 2023 to transferable securities issued after that date and from 1 January 2025 to all transferable securities.
The regulation’s settlement date rules (Article 5(2)) apply from 1 January 2015.
Settlement across borders presents higher risks and costs for investors than domestic operations. At the same time, this form of transaction is increasing. Traditionally, CSDs have been regulated nationally.
The legislation provides a common set of prudential, organisational and conduct of business standards for use across the EU, whose existence will play a crucial role in financing the economy.
Regulation (EU) No 909/2014 of the European Parliament and of the Council of 23 July 2014 on improving securities settlement in the European Union and on central securities depositories and amending Directives 98/26/EC and 2014/65/EU and Regulation (EU) No 236/2012 OJ L 257, 28.8.2014, pp. 1-72)
Successive amendments to Regulation (EU) No 909/2014 have been incorporated in the original text. This consolidated version is of documentary value only.
European venture capital funds
Regulation (EU) No 345/2013 on European venture capital funds
It aims to boost the growth and innovation of companies in the EU, including small- and medium-sized enterprises (SMEs).
It introduces a European Venture Capital Funds label, also known as EuVECA, and measures to allow managers to set up and market their funds across the EU using a single set of rules. This single rulebook will permit investors to know exactly what they can expect when investing in EuVECA.
It will also enable venture capital funds to be better positioned to attract more capital commitments and expand.
The average EU venture capital fund size is circa €60 million, whereas a similar US fund has more than double that. By enabling these EU funds to grow, it should be possible to boost capital contributions to individual companies and enhance their investment impact.
The regulation aims to boost funds so that they become larger, to adopt a more diversified investment strategy, so that they can specialise in sectors such as IT, biotechnology and healthcare. This should result in European companies becoming more competitive worldwide.
To register for the EuVECA label and market their funds across the EU, managers of venture capital funds must set up a fund that:
invests 70% of the capital it receives from investors in supporting eligible companies, such as young and innovative SMEs;
provides equity or quasi-equity finance (i.e. fresh capital) to these companies;
does not use leverage (i.e. the fund is not indebted, because it does not invest more capital than is committed by investors).
The regulation sets out uniform quality criteria for managers of qualifying venture capital funds that wish to use the EuVECA label. These requirements cover everything from the way they organise and conduct themselves to the manner in which they inform investors about their activities and investment policies.
These managers must also register in the country where the fund is established and provide annual reports. The country where these funds are located is obliged to ensure all the regulation’s rules are respected.
As investing in venture capital funds can be risky, the regulation defines who can invest in EuVECA: professional investors and certain other categories such as high net worth individuals.
Regulation (EU) 2017/1991 amends Regulation (EU) No 345/2013 on European venture capital funds and its sister-regulation (Regulation (EU) No 346/2013) on European social entrepreneurship funds (EuSEF), extending the use of the designations ‘EuVECA’ and ‘EuSEF’ to managers of collective investment undertakings* authorised under Article 6 of Directive 2011/61/EU. It also expands the range of eligible companies, and decreases the costs associated with marketing the funds across the EU.
The EU’s economic growth is largely dependent on its 23 million SMEs, which have also provided 80% of all new jobs in recent years. As traditional bank loans become harder to access, many SMEs now turn to venture capitalists to fund their research, product development or enter new markets.
Regulation (EU) No 345/2013 of the European Parliament and of the Council of 17 April 2013 on European venture capital funds (OJ L 115, 25.4.2013, pp. 1-17)
Successive amendments to Regulation (EU) No 345/2013 have been incorporated in the original text. This consolidated version is of documentary value only.
Regulation (EU) 2017/1991 of the European Parliament and of the Council of 25 October 2017 amending Regulation (EU) No 345/2013 on European venture capital funds and Regulation (EU) No 346/2013 on European social entrepreneurship funds (OJ L 293, 10.11.2017, pp. 1-18)
Regulation (EU) No 346/2013 of the European Parliament and of the Council of 17 April 2013 on European social entrepreneurship funds (OJ L 115, 25.4.2013, pp. 18-38)
Directive 2011/61/EU of the European Parliament and of the Council of 8 June 2011 on Alternative Investment Fund Managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No 1060/2009 and (EU) No 1095/2010 (OJ L 174, 1.7.2011, pp. 1-73)
Money market funds
Regulation (EU) 2017/1131 on money market funds
It establishes EU-wide rules to make money market funds (MMFs)* more resilient and better able to withstand market shocks. It does so by ensuring uniform rules on prudential requirements, governance and transparency for managers of MMFs.It applies from 21 July 2018, apart from some rules that apply from 20 July 2017 (Articles 11(4), 15(7), 22 and 37(4)).
The legislation applies to all MMFs managed and/or marketed in the EU. There are 3 kinds:
variable net asset value (VNAV), mainly depending on market fluctuations;
public debt constant net asset value (CNAV), which try to maintain a fixed price for each share;
low volatility net asset value (LVNAV) – a new category introduced as a viable alternative to CNAVs.
It requires MMFs to have sufficient liquid assets to meet any sudden withdrawal of investment:
LVNAVs and CNAVs must hold at least 10% of assets that mature (i.e. to be repaid by the issuer) within 1 day and 30% that mature within 1 week;
VNAVs need to hold at least 7.5% of assets that mature within 1 day and 15% within 1 week.
It introduces rules on portfolio diversification and valuation of assets. An MMF may invest no more than:
5% of its assets in money market instruments issued by the same body;
10% of its assets in deposits made with the same credit institutions;
17.5% in other MMFs, to prevent circular investments.
The regulation sets:
a 15% limit on reverse repurchase agreements* with the same counterparty;
specific limits for covered bonds and deposits in the same credit institutions.
It prevents MMFs from receiving any financial help from other institutions, notably banks.
It also requires MMF fund managers to:
apply prudent quality assessment procedures to potential investments;
be aware of the activities of their investors;
supply the appropriate surveillance information to the relevant authorities.
The European Commission must review the legislation by 21 July 2022.
Money market funds are mainly used as an alternative to bank deposits to invest excess cash for short periods of time. They enable investors to diversify their financial holdings, while allowing them to recover these at short notice. In the EU, the funds manage assets of some €1 trillion which are used to finance the real economy.
However, market turbulence, as seen in the 2007/2008 financial crisis, can lead to a run on funds. If large groups of investors start to withdraw their cash, potentially others across the EU follow, damaging the financial system.
The EU legislation follows similar moves by the G20 group of industrialised countries and the Financial Stability Board to strengthen oversight and regulation of the shadow banking system.
Money market fund: a mutual fund issuing shares to investors to finance their activities.
Reverse repurchase agreement: where the purchaser of securities agrees to sell them back at an agreed price on a specific date.
Regulation (EU) 2017/1131 of the European Parliament and of the Council of 14 June 2017 on money market funds (OJ L 169, 30.6.2017, pp. 8-45)