3. Is the Cayman-Dublin route under threat?
An increasingly important issue for hedge funds targeting European markets is the choice of domicile and listing.
One of the most popular approaches in recent years has been to domicile funds in offshore jurisdictions such as the Cayman Islands, Bermuda, or the British Virgin Islands, but have them administered in Dublin and listed on the Irish Stock Exchange. However, this is starting to be challenged by the growth in importance of Luxembourg as a hedge fund centre.
In addition, there are moves toward the domiciliation, servicing and stock exchange listing of funds in the jurisdiction in which they are to be marketed, in response to legislative moves by countries such as France, Germany and Italy to encourage the creation of domestic hedge funds geared at least to some extent toward a more retail market.
Dublin has allowed the listing of offshore hedge funds for a long time, but it was only quite recently - in July 2004 - that the Luxembourg Stock Exchange also authorised the listing of such funds. This should be a good opportunity for Luxembourg to attract offshore funds and to compete on a level basis with Dublin, because the exchange's unwillingness to list Cayman and British Virgin Islands funds has been a handicap for Luxembourg in the past.
This can be an advantage given that offshore fund promoters often choose their administrator and service providers in the country where they have their listing. It's more convenient to have the stock exchange, the administrator and the custodian in the same place, which is why Luxembourg has chosen to admit offshore funds. Now, from a regulatory point of view, Luxembourg and Dublin are quite similar.
However, Dublin and Luxembourg do not necessarily target the same customers. In general English-speaking asset managers, notably from the US, go to Dublin, whether they use a Cayman or Irish fund, whereas Luxembourg has a continental European location, meaning that people from the Netherlands, Germany and France are more likely to go there.
From a product distribution point of view, funds regulated by the Luxembourg or Irish authorities are easier to sell to institutional investors than structures established offshore. Such big investors have strict risk policies and investment rules, and are often constrained from using less regulated funds. A Luxembourg or Irish structure may be less flexible, but you have a less risky, more regulated product that is easier to sell.
Many asset managers have established their hedge fund structures in Dublin, but in some cases their choice may have been driven by the fact that Dublin was synonymous with alternative investments, rather than a strict comparison between the two centres. There was a feeling that you had to go to Dublin to launch a hedge fund.
The fund industry in the Grand Duchy has done a good job over the past two or three years to change the minds of asset managers, who now tend to think about Luxembourg when they administer their portfolios. However, it's difficult to tell whether the ability to list Cayman and BVI funds has had much impact so far. In the long term it should be an advantage, but it may a take a year to become apparent.
Meanwhile, in France, Germany and Italy new regulations allow onshore funds to be set up, with the aim of building up local expertise and improving risk monitoring. The German financial regulator, BaFin, has established a flexible framework for hedge fund managers, but this is undermined by the tax reporting imposed by the German ministry of finance. The transparency requirements are especially difficult to meet for funds of hedge funds, and overall the rules make it very difficult in practical terms to set up an onshore hedge fund in Germany.
France is a big market for alternative investments, and major asset managers such as Crédit Agricole, Société Générale and Ixis have had large ranges of hedge funds for some time, but they are all domiciled in Dublin or Luxembourg.
That why the French financial regulator, the AMF, recently decided to create a new regime to encourage the establishment of onshore funds. The new regime, which provides a lighter regulatory touch and allows funds to use leverage, is much more flexible and streamlined than the regular legislation on investment funds. The first French onshore hedge funds were authorised by the regulator in April this year.
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