Heightened scrutiny by Asian regulators has underlined the need for European fund firms to use local distribution partners in the region, said Alexandre Meyer, general counsel for Lombard Odier Asset Management.
Speaking at a recent conference hosted by the Association of the Luxembourg Fund Industry in Luxembourg, Meyer noted that client base was no longer the over-riding consideration when selecting a partner. Rather, the “understanding of things related to products and regulation” had become more important.
Meyer singled out Lombard Odier’s strategy in South Korea, where the firm’s Undertakings for the Collective Investment of Transferable Securities (Ucits) vehicles are being wrapped by local partners.
“More and more we see regulators [in Asia] building barriers by making local rules slightly different,” Meyer told the forum. “We already see signs of regulators not allowing every [Ucits] product to enter.”
Stephane Karolczuk, head of the Hong Kong office of Luxembourg law firm Arendt and Medernach, said clues to how Asian regulators view products can be seen in their draft rules for Asia’s three pending passport initiatives: the Asean scheme, China-Hong Kong Mutual Recognition and the Asian Region Funds Passport.
In each case he said the fund structures were more reminiscent of the first version of Europe’s Ucits. In other words, relatively simple. “The most advanced is Asean, which allows for the use of derivatives, although it is expected the first generation of those passportable funds will only use derivatives to mitigate currency risk,” noted Karolczuk.
Tougher regulatory scrutiny of fund structures had made it even more important to check before deciding which countries to sell into and who to partner, added Meyer.
Rob Swan, distribution strategy consultant at BNY Mellon Asset Servicing, added that European and US managers still failed to see Asia as a collection of local markets “each with individual needs in research, servicing and relationships”.
“Many people think you can just train your agents and leave them to sell. But they are probably selling 100 different products at the same time. You have to service the relationships,” said Swan.
On a separate note, Karolczuk said that many contracts between European and Asian managers had still not included changes to arrangements governing remuneration as required by the Alternative Investment Fund Managers Directive (AIFMD), which came into force in July last year and is included in Ucits V rules approved by the European parliament this April.
The European fund industry won the right not to cap variable payments to managers on three conditions: a portion of these payments are paid in fund units/shares to be retained by the manager for at least three years; payment of a portion of the remuneration is deferred over time; and there are mechanisms in place to adjust the variable payment in the light of performance of the relevant manager, including claw-back mechanisms in the event of fund underperformance.
But in many cases, contracts between Asian managers and their European partners are not yet compliant.
Karolczuk noted that where there were not equivalent remuneration rules, “fund managers in Europe who are delegating to managers in Hong Kong or Singapore will have to sit down and write these new rules into their contractual agreements”.
He also warned that managers could soon have to alter their distribution agreements again around incentives.
The latest draft of the Markets in Financial Instruments Directive (Mifid) will affect Asian independent advisers and portfolio managers with European operations or those performing their services for European counterparties.
“If an investment adviser subject to Mifid introduces itself to a client as being independent it shall not receive any inducements, from the fund sponsor or the securities house for which it has sold the securities – but only from the end-client,” said Karolczuk.
For advisory services in Hong Kong or Singapore, one would need to look at the distribution structure to determine whether the ban is applicable, he advised.
European managers distributing into Asia are also fretting about their compliance obligations. An audience vote at the Alfi forum showed that most are uncertain about how far European regulators would hold them responsible for overseeing the practices of distributors.
Managers are required to keep up-to-date with regulations from both the US and Europe. Jacques Elvinger, partner at Elvinger, Hoss & Prussen, said managers must understand which responsibilities can be delegated and formalise these with distributors by “clearly defining delegation in the contractual framework, including documentation for delegated powers between entities”.
In the absence of a test case, he said it was not realistic to expect a manager to conduct due diligence on behalf of local distributors in cases where the manager had already appointed a global distributor and there could be hundreds of local distributors responsible for selling the fund.
The lesson, he suggested, was that management companies should make sure they appoint the right global distributor in the first place.