Wellcome advice: EU Directive 'needs to be refocused'

Members of the UK’s House of Lords are meeting this week with representatives of the European Commission in Brussels, where they will push industry concerns about the proposed EU regulations on alternative investment funds.

The meetings come after the Lords heard testimony about potential negative impacts on Tuesday from both Danny Truell, chief investment officer of the Wellcome Trust charitable foundation, and Dan Waters, director of conduct risk for the UK’s Financial Services Authority.

The hearing came a few weeks after a report by the FSA said that the European Commission’s “Directive on Alternative Investment Fund Managers” could impose substantial one-off compliance costs of up to €3.2 billion on alternative investment fund managers, with private equity funds largely bearing the brunt of projected ongoing compliances costs of more than €300 million. The report also said that European investors will lose the ability to choose from the best funds, as the directive would ban them from investing in funds not domiciled in the EU.

In his testimony before the House of Lords EU Sub-Committee on Economic and Financial Affairs on Tuesday, Truell discussed the impact that such a ban could have for his £13 billion charitable foundation, which has 60 percent of its investments in alternative assets and 50 percent invested in non-EU funds. “What is going to happen if the directive were to go ahead in its existing form, from talking to our partners who run these funds, is that unfortunately given that less than 20 percent of their investors come from the EU, essentially these funds are not going to be open for us,” he said.

He added that consequences could be even more harmful to smaller charities and foundations across the EU. “The public good will be adversely affected if we and other EU foundations were directly or indirectly restrained by our choice of investments, as is currently being proposed,” Truell said.

Among the issues Waters addressed was the marketing restrictions in the directive that prohibit non-EU-based alternatives managers from raising and managing assets in the European Union. Foreigners trying to market in Europe will have to demonstrate to the relevant authorities that they are subject to the equivalent regulation in their home jurisdiction.”The hurdles that are set are far too high, they will not be achieved,” he said. “You will find very few countries able to clear the so-called equivalence hurdles. We see no case for closing the door to these kinds of investments.”

While Waters said it makes sense to regulate the fund manager, as they run the strategy of the fund and make decisions on leverage, there is evidence that the directive is moving more towards regulating the fund itself. He especially pointed to proposed limits on leverage in a fund.

“That is a direct interference in the management of the fund,” he said. “That kind of intervention we don’t think is a sensible thing at all, and that concern about something like that is in a market crisis that you may have not foreseen, with such a cap you may well be driving everyone to unload portfolios at exactly the same time and exacerbating a liquidity crisis. So there are some aspects like that that need to be changed and the directive needs to be refocused.”

Finally, Waters said stricter disclosure requirements for managers to provide detailed information on their funds’ activities would be counterproductive, as it would lead to more unnecessary paperwork piling up from systemically insignificant funds. A better approach could come from a hedge fund survey that the FSA is testing within the industry, in coordination with the US Securities and Exchange Commission.

“We’re working with the SEC now, coming to a common position on what is the right information,” he said. “We aggregate information from fund managers who manage less than £500 million pounds about their portfolio positions, leverage, liquidity. For the bigger funds we get that same information at the fund level. In the best of both possible worlds you’d like that kind of flexibility, that kind of focus to be in the directive and in the hands of the regulator who is the one that needs to aggregate it, analyse it and understand it. What we don’t want is a whole load of generic information about everybody just sort of pouring in the door and we’re clawing our way through it.”