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Brussels, 4 July 2006
FAQs common to the three reports
1. How were the reports prepared? In what capacity were experts acting?
The reports reflect the outcome of the Expert Groups' discussions during the period February – June 2006. During that period, the Groups met four times to discuss an evolving draft of this report. In the limited number of instances where points of view could not be reconciled, this is made clear in the body of the reports. The reports do not necessarily reflect the views of the organisations to which the experts belong. They reflect consensus within the Groups not the views of the Commission, the wider industry or other stakeholders.
2. How were the Experts chosen?
The Green Paper provided for the creation of an advisory group on investment fund market efficiency and alternative investment funds. The group was made up of persons having direct relevant commercial experience in respect of the matters covered by the mandate. Provision was made for the participation of observer(s) from consumers/investors associations. The members of the group were appointed by the Commission on the basis of proposals from trade associations representing the interests of all or part of the relevant segment of the EU fund industry.
3. What will the European Commission do with these reports?
The reports represent an important input to the on-going work of the Commission. The Commission services wish to submit the assessment and views of the Groups to wider scrutiny and open debate before developing a basis for a formal position. To this end, the Commission services have organised an Open Hearing in Brussels on 19th July 2006. Stakeholders are also invited to send their comments to the following address: email@example.com by 20 September 2006. These reactions will be published on the relevant website unless confidentiality is requested.
In November 2006, on the basis of those debates and contributions, as well as of further internal analysis, the Commission will publish a White Paper detailing the actions it proposes to take to facilitate the efficient development of the European funds sector. This will focus in a first instance on retail funds but there may be an opportunity in that paper to consider elements of the approaches to alternative investment funds, including, inter alia, hedge funds and private equity.
4. What was the role of Commission staff in the running of the groups and preparation of the reports?
The role of Commission staff in this process was to facilitate discussions – by providing secretarial support in organising and hosting the meetings, and acting as the chronicler of groups' discussions. The reports represent a fair presentation of the views of the Groups' members. They should not be construed as reflecting the views of the Commission or of its services.
FAQs specific to the report on investment fund market efficiency
1. What mandate was the expert group on Investment Fund Market Efficiency given?
The expert group’s mandate was to advise the Commission on cost-effective ways to support a more efficient organisation of different stages in the European fund value-chain.
The Group was asked to identify shortcomings in the EU regulatory environment which prevent the fund industry from exploiting its full potential and to issue recommendations on the steps needed in order to realise any untapped efficiency gains. The report presents the Group's proposals regarding the authorisation/notification of funds, fund mergers, asset pooling, the management company and the depositary.
2. How have investors' interests been taken into account?
In issuing their recommendations, the group was asked to have regard to the need to sustain the high levels of investor protection that the current UCITS framework offers. During the discussions, the Commission invited experts to take into consideration potential regulatory concerns. Other stakeholders' views were expressed during the debates thanks to the participation of representatives of retail investors (ADICAE), regulators (CESR), supervisors (ECB) and shareholder organisations (EuroShareholders), who were invited to the meetings as observers.
However, this report reflects only the views of representatives of the fund industry. One of the key objectives of the open hearing is therefore to validate the assessment of the expert group against the views of other stakeholders.
3. Does the Commission think that these proposals will significantly improve the operation of EU investment fund market?
All the expert group proposals have a potential to foster efficiency gains at different levels of the fund production value-chain. The group's recommendations aim to reduce times to market, exploit economies of scale and specialisation and provide more flexibility for industry players to organise their business on a pan-European basis. This should help the industry to offer cheaper products able to respond to the evolving needs of investors.
However, this is not the only criterion that will be taken into account when analysing the proposals. The Commission will assess whether the recommendations are the most cost-efficient measures in order to achieve the desired result. Particular interest will be also paid to the need that any measure to realise efficiency savings will not come in detriment of investor protection. The Commission therefore invites all interested parties to react to the experts' recommendations indicating which risks or disadvantages the recommendations may present. The analysis of the report's proposals and the contributions of other stakeholders will feed into the White Paper on investment funds to be published in November 2006.
4. How will any benefits be passed on to investors?
Many of the gains in efficiency pursued by the experts' proposals will translate into a range of advantages for all market players. Some of those will accrue directly to investors. For example, funds mergers will make easier for investors to choose among funds since mergers will contribute to reduce the confusion that the proliferation of similar funds with different names creates. Likewise, the economies of scale achieved by the pooling of assets will reduce trading costs. This will have a positive impact in the value of the fund and thus, on its performance.
However, in other cases, it is not yet clear whether the reduction of costs expected will automatically flow on to investors. This will very much depend on the degree of competition in the market, as well as on the ability and willingness of investors to shop around and, thus, put pressure on prices.
5. Wouldn't it be better to rewrite the Directive along the lines of the Lamfalussy approach instead of launching another round of (incomplete) repair measures?
Many consider that a shorter legislative cycle will be necessary to keep pace with markets. Making the whole UCITS Directive Lamfalussy-compliant would help in this sense. However, this would mean a complete rethink and rewrite of the Directive. This risks delaying urgently needed adjustments to the UCITS framework. The expert group believes that improvements to the current framework should not be hold back by discussions on the appropriateness or not to proceed with an overhaul of the Directive along the lines of the Lamfalussy approach. Reflections on the desirability to make the Directive Lamfalussy-compliant will continue over the medium-term.
6. Is this a complete agenda? Have things been left out?
The report's recommendations are not presented as a comprehensive programme in order to fix all the drawbacks of the current EU legislative framework for investment funds. It is rather the minimum set of actions that the experts consider should be implemented as a matter of urgency. Some of the solutions on the table, such as a full depositary passport or the standardisation of the processing of fund orders have been left out of the list. It was considered that they were either not yet ripe or that industry-led initiatives could effectively handle them.
Since they are under examination by competent authorities, the group has not looked either at issues regarding the scope of the product passport or rules relating to fund composition and investment policy.
7. Does the Commission find the proposals to be feasible? Is the three years deadline realistic?
The Commission considers the recommendations to be sensible and balanced. Making them a reality could be, however, a challenging exercise, in particular when tax barriers need to be tackled. Planned discussions with national authorities and other stakeholders, as well as on-going research, will help the Commission to assess the proposals' suitability.
The Commission's analysis will be developed during the next months and will feed into the White Paper to be adopted in November 2006. The White Paper will present the definite set of measures that the Commission intends to implement.
For those measures requiring changes to the Directive, the legislative process will be launched immediately afterwards. Given the time required to adopt legislative proposals (minimum 24 months) and the usual two years implementation period, the three years deadline can be seen as rather tight.
8. Will it be necessary to change the Directive to give effect to these proposals?
Yes, some of the report proposals will require changes to the UCITS Directive. The table below presents a quick overview of the type of action that each proposal will require.
FAQs specific to the report on private equity
1. Does this report represent the Commission's own views on the private equity industry?
No. These reports reflect the majority views of the industry practitioners which were selected for this Group in an open call for tender. The report contributes a practitioner's perspective on the role the industry plays, in particular, in financing and developing businesses. The report presents the Group's views on the social and economic impact that private equity financing has on the companies in which the industry invests.
2. What are the Commission's views on the recommendations made by the Group?
The Commission will not react immediately to the recommendations in the report. Following the open hearing and subsequent discussions with interested stakeholders the Commission will form its views on the implications and feasibility of developing the Group's recommendations. The Commission would acknowledge, however, that this is an important debate, as the report demonstrates. Stronger, deeper and more integrated European private equity markets are an important feature of the European marketplace - driving economic growth, creating jobs and developing more competitive businesses that can compete on a global stage.
3. The Commission's White Paper on Financial Services Policy 2005-10 refers to the importance of "risk capital" and "venture capital" markets. How does the Expert Group report feed into this debate?
The Group's report will serve as an important building block in the Commission's understanding of the challenges this industry faces in respect of legal, administrative and fiscal obstacles to the development of a European private equity market - effecting all the sub-sets of private equity financing stages (from venture capital for start-up businesses and early stage companies, to later stage expansion capital; and management buy-outs and management buy-ins). The report will help us when developing policies that have direct impacts on this industry, or indirect consequences. In addition, DG Enterprise and Industry has recently published a Communication on "Financing Growth". This report highlights some of the most significant barriers to entrepreneurs and SMEs in gaining access to appropriate sources of (equity and non-equity) financing in Europe. The Expert Group report will provide a source of further reflection to fuel this important debate.
4. The problems identified seem to lie principally within the gift of the Member States. What can the EU do?
We recognise that, in particular, with regard to the fiscal barriers cited in the report, the Member States will need to consider how best to proceed. There are no easy solutions, but the report does explain where the problems are most acute and which issues need to be debated at national level in order to facilitate a more integrated European market for private equity. The report puts forward a compelling case for engagement with these issues. The ball is now in the Commission's court to consider how it is best place to support this process and whether, and how, is able to build on these recommendations. The support and engagement of the Member States will be critical in improving the situation for the European private equity industry.
5. Is the Commission going to legislate in the field of private equity?
No. The work of this expert group is not a prelude to legislative initiatives targeting the private equity sector. The purpose of the Group was to better understand the developments that are taking part in the EU market, and to understand the obstacles and constraints this business faces when operating on a (pan) European or transnational basis.
The Commission acknowledges the view of the Group that legislation that has been development for the financial markets often has unintended consequences for sub sets of the financial industry, such as the private equity industry. The Commission further acknowledges that careful consideration of the specificities of this market should be considered when reviewing or when proposing any future legislation which could affect the private equity sector.
6. What is the Commission's view as regards corporate governance in the private equity industry? What does it think about allegations of asset stripping in the buy-out market?
The report presents some strong arguments explaining how the industry plays a positive role with regard to introducing corporate governance concepts (transparency and disclosure, corporate reporting and decision making etc.) to new businesses and challenging the management of established businesses in which it invests. The Commission considers that the negotiated/contractual nature of the relationships between investors and fund managers, and the active involvement of the manager in the portfolio companies within the investment process is an important part of this argument. An emotive issue, especially where it has affected employment levels within investee companies, has been the practice of dismantling an acquired business by selling off operational and/or financial assets. However, such operations may reasonably be an element in turning around an underperforming or failing business, whether in the private or the public markets.
FAQs specific to the report on hedge funds
Representatives of institutional (e.g. pension funds) and retail (e.g. FIN-USE) investors, regulators (CESR) and supervisors (ECB), corporate companies (UNICE) and shareholder organisations (e.g. EuroShareholders) were invited to participate in the expert group as observers. However, this report reflects the views of the hedge fund industry and professional market participants. Consequently, one of the key objectives of the consultation process is therefore to validate the assessment of the expert group against the views of other stakeholders: consumers, investors, and regulatory and supervisory authorities.
The Commission invited the Group to report on how it sees the future development of the hedge fund industry in the European context, and whether there are any European-level regulatory or other obstacles which hold back the efficient organisation of the business in Europe. This was one of the first opportunities for a group of hedge fund practitioners to contribute to the policy debate on the development of this fast-moving business.
The objective of the group was to provide EU policy makers with a market practitioner's view of the European market for hedge funds. The group has delivered a report which includes a set of targeted and practical recommendations, (briefly) describes the current market; explains why it is the way it is; highlights the difficulties encountered and best practices undertaken when doing business in different EU Member States.
The Commission will not react immediately to the recommendations in the report. We will test the conclusions of the Expert Group with interested stakeholders. The Open Hearing on 19th July in Brussels is a key opportunity to discuss and debate the findings of the report. We will also compare the views expressed during the Open Consultation on the Green Paper (see IP/06/152). The Commission will form its view of the nature of the obstacles facing this business, and the issues (if any) that this industry raises for regulators during the summer, prior to publication of a White Paper on Investment Funds. However the Commission acknowledges that this is an important and topical debate. Hedge funds are now an established feature of the European market.
The report makes a strong case that this industry has developed successfully and made a positive contribution to sound functioning of financial markets without receiving intensive scrutiny/oversight from regulators. The report convincingly argues that product regulation and regulation of investment policies are antonymic with the industry. The Commission notes that – despite some recently expressed misgivings – this remains a broadly shared view. This issue will remain subject to continued review. The report suggests that the industry is faced with new choices as regards the decision to serve a broader investor base. If part of the industry wishes to make hedge fund investing available to the mass market – in one form or another – this will trigger close regulatory engagement. The Commission will be looking carefully at the recommendations of the Group and discussing them with regulators to see if they represent viable or secure basis for broadening investor access.
The report makes a number of suggestions to facilitate the marketing/sale of hedge fund investments to a broad range of investors on a pan-European basis. This is perhaps the single biggest issue to emerge from this report. It will need very careful consideration. It can be noted that within the Group there were different strands of thoughts on this. They need to be assessed from perspective of investor protection. Some proposals also need to be examined to see whether they can be implemented in the envisaged way on the basis of existing EU securities law.
6. Do the recommendations relating to distribution of hedge funds mean that any product from an "exotic" jurisdiction should be marketable to everybody in Europe without regulatory monitoring?
No. In order to avoid excessively liberal retail access to hedge fund investing, the group agreed that only investors wishing to invest a minimum of 50,000€ should be considered. In addition, the safeguards in shape of the graduated conduct of business rules which the MiFID-regulated entity/placement agent must offer to the client/counterparty will apply. These will be non-existent in the case of financial institutions and other eligible counterparties, will be reduced for professional investors and will apply fully in the case of retail investors.
7. The Group rejected idea of allowing funds of hedge funds to be sold as UCITS/retail investment funds. Why?
The Group gave consideration to possible adjustments to the provisions of the UCITS Directive to allow a broader population of funds of hedge funds to be authorised and marketed across Europe as UCITS. However, the Group concluded that this would amount to a major undertaking. Given the scale of the challenge, and the uncertainty about the magnitude of the benefits compared to other proposed routes for opening up retail market access, the Group decided to advise against such a course of action.
8. Does the Group favour the requirement of independent valuation of hedge funds?
The calculation of hedge fund net asset value or “NAV” is a vital task, because the price at which investors purchase and redeem the shares or units of the fund is based on the NAV. The Group recognises the paramount importance of independent valuation, in particular with respect to illiquid, unlisted or complex assets. It underlines that the lack of instances of hedge fund fraud in Europe is attributable (in large part) to the common European practice of using independent fund administrators. However, the prevailing view amongst experts is that the valuation of hedge fund assets is not an issue that can be addressed by legislation or the imposition of a requirement for an independent third party. Valuation is most appropriately managed by adherence to industry-led codes of conduct and best practice coupled with transparency of the valuation process for investors.
The approach to set valuation principles proposed by the IOSCO Standing Committee 5 is based on an interaction process with the industry, notably with an Alternative Investment Management Association (AIMA) working group, on the key issues relating to the valuation of hedge funds.
9. Do hedge funds threaten corporate governance models?
The size of the hedge fund business, as well as the role it plays in company
financing, makes hedge funds more visible. They have become more active
investors in corporate equity and active shareholders of the companies in which
they invest. There is some pressure for institutional investors at least to be
subject to greater transparency and to be obliged to disclose their voting
policies (possible legislation is being discussed in a few Member States). This
issue is part of the Commission’s current consultation on its Action Plan
on Company Law and Corporate Governance, which dates from 2003. A decision will
be taken in the light of the results of the consultation. There is, however, no
justification in principle for distinguishing between different types of
institutional investors, i.e. between hedge funds and pension funds or others