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UCITS after Brexit: what’s in store for UK asset managers?

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UCITS regulations are set to diverge following Brexit, with changes to selling funds across Europe and a new UK Investment Firm directive. These are major changes that experts will be keenly watching. But just how far Europe and the UK diverge remains to be seen. That uncertainty is likely to loom over asset managers in the coming months, meaning it’s imperative that they stay abreast of any changes. Let’s take a closer look at the changes.

Model change 

Following the end of the Brexit transition period on 31 December, UK investment managers will no longer be classified as UCITS. What does this mean in practice? 

Only funds or management companies domiciled in an EU member state are eligible under UCITS, including any passporting permissions. From an EU perspective, meanwhile, UK UCITS funds instantly become third party Alternative Investment Funds (AIFs). The sale and distribution of such funds into the EU, therefore, remains uncertain.

Crucially, there is now an ever-increasing likelihood that third party passports for managers based outside the EU, in some sort of equivalency deal, will not be forthcoming. Managers have widely expected this outcome and have prepared as best they can, with many setting up local offices and in Ireland and Luxembourg in an effort to show “substance”.

Overall, however, it seems increasingly likely that sales and distribution will be subject to state private placement delegation rules.

Given this, any so-called “delegation model” remains the topic of fierce debate. While asset managers often base themselves and sell funds in the EU itself, they usually outsource investment decisions and other tasks to other cities, such as London or New York. 

This global model is coming under pressure, though, as EU regulators have tabelled the possibility that managers may need to show an increased level of “substance”, not just a satellite office. In a recent letter to the European Commission, they also raised  the prospect of prescribing “quantitative” maximum limits on delegation or a list of “core or critical functions” that should be performed in the EU.

‘No one knows what that means, but it spooks everybody,’ said Sean Tuffy, head of market and regulatory intelligence at Citigroup EMEA, at the City & Financial’s virtual Regulation of Asset Management 2020 summit on Oct. 14.

‘A push to create third-country roles in the UCITS framework could lead to U.K. fund managers having to hold more substance within the EU,’ he added.

What’s ahead 

The need to show even greater substance would be a major challenge for many firms. Already the likes of Aberdeen Standard Investments, Ashmore Group PLC, Legg Mason Funds Management Inc., Hermes Investment Management Ltd. and Legal & General Group PLC, among others, have chosen Ireland as their EU base. 

Luxembourg and France are the second and third most popular destination to which to move operations, with Luxembourg the preferred continental European center for BlackRock Inc., 3i Group PLC and American International Group, Inc. 

While it’s unlikely that all front office operations will have to be moved to the EU, more changes are now certain, and an exact deal will depend on how the Brexit negotiations pan out in the coming weeks. 

At the same time, meanwhile, the FCA have said that the UK will not be following the EU’s Investment Firm Regulation and Investment Firm Directive, set to come into force in June 2021. Instead, the UK  will develop its own regime, which will be implemented at the same time. Once again, how much these two regimes diverge is likely to depend on the unresolved Brexit talks, which currently hang in the balance. 

‘The skinnier the deal the U.K. and the EU sign up to, the greater the sovereignty and the inevitability of diverters,’ Michael Collins, director of government affairs at investment firm M&G, remarked at the virtual Regulation of Asset Management event.

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