Following on the tried and tested UCITS experience and further strengthened by AIFMD, the delegation ManCo model has been successfully operated for many years and an entire ecosystem has been built around it, allowing among other benefits significant amounts of capital to be attracted to the EU.
The partnership approach carries a number of advantages. It allows fund managers to test the waters of a new market before developing their own full-fledged AIFM presence if they wish, in their own time. For managers without a European presence, the delegated model is the quickest and easiest route to market, and the speediest way to establish the required level of transparency. It avoids the uncertainties that come with setting up a new office and the time and money wasted should the new venture not work out.
Another big appeal of the delegated model is that it allows fund managers to focus purely on their core specialty – namely generating returns for their investors. Thanks to the external AIFM partner, you need not worry about the additional, onerous reporting requirements that come with AIFMD compliance. And that is perhaps one of the most important functions carried out by the AIFM which provides an independent risk management function as well as independent oversight and governance at the level of both the AIF and the AIFM.
Luxembourg remains the AIFM hub
According to the Investment Association, UK managers in 2016 were managing a total of EUR398 billion of assets in Luxembourgish funds.
"A lot of UK-based fund managers are looking for some kind of solution to Brexit and are considering Luxembourg," says Kavitha Ramachandran, Director of MS Management Services, a Luxembourg-based subsidiary of Maitland, a leading global fund administrator.
"Specifically, they are looking for a third party AIFM solution where they could engage with someone like Maitland."
While the delegation model is tried and tested, given that the UK would become a third country after Brexit it will lead to two possible solutions, depending on whether it is a soft or hard Brexit.
If it is a soft Brexit, the UK could have an equivalence arrangement in place and passporting rights will be upheld, making delegation of portfolio management straightforward.
If, however, it is a hard Brexit and the UK will need to enter into a Memorandum of Understanding with EU countries. "We delegate to managers in the US and Switzerland as the appointed AIFM so I would not imagine this to be any different with the UK," remarks Ramachandran .
"The standard model in Luxembourg is that the AIFM performs either risk management or portfolio management, or indeed both," says Ramachandran.
"Today, with the UK's equivalence status, it is very easy to delegate that function back to London-based managers. When the UK becomes a third country, managers will need to follow third country rules in order to qualify; that will require the UK having an MoU to ensure the manager is regulated in an appropriate manner and in all likelihood the UK would tick all the boxes. It should not be a problem."
From a Luxembourg perspective, Ramachandran says that the due diligence process conducted by the AIFM and the ongoing monitoring of the delegate happens in a very prescribed manner.
"This has long been the case in the UCITS world and has been replicated under AIFMD. On-site visits happen on a regular basis, monitoring is done on a monthly basis to ensure there are no deviations (i.e. with respect to the fund strategy) and that the delegate is performing its duties correctly. We report on a number of KPIs as the appointed AIFM so a fairly robust system has been built around the delegation model."
There is another solution, however, especially to managers operating in the private equity and real estate space. It is not always the case that the investment adviser is a fully regulated entity. They might not fall under a particular licensed regulation. If so, the appointed AIFM in Luxembourg could take on the portfolio management function internally – ie no delegation – and have the PE or RE manager become a part of the AIFM's investment committee.
"Obviously, the representatives of the AIFM within the investment committee must have the requisite knowledge and expertise in the particular asset class in order to challenge the portfolio manager when it comes to investment recommendations they are making and so on. Delegation could be well contained within the Luxembourg AIFM to support these alternative investment strategies in the more illiquid end of the marketplace, going forward," comments Ramachandran.
This could conceivably mean that Luxembourg AIFMs would become more specialised with expertise in specific alternative asset classes rather than one-size- fits-all, to support alternative fund managers – a welcome development indeed.
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