Unregulated Funds give Jersey a vision for the future
Building on the success of the Expert Funds regime launched three years ago, which almost overnight reinvented Jersey as a domicile and servicing centre for alternative funds, the island is planning to complement its existing range of fund vehicles by offering unregulated funds for sophisticated and institutional investors that entail no further oversight once their establishment has been notified to the industry regulator, the Jersey Financial Services Commission.
The move to launch completely unregulated funds at the beginning of next year comes as other jurisdictions across Europe, including Guernsey, the Isle of Man, Luxembourg and Ireland, compete to offer ever more lightly regulated regimes for alternative funds. Jersey is seeking to set itself apart from the crowd with a fund vehicle that not only does not require initial approval or ongoing supervision but carries no obligation to use service providers on the island such as administrators, nor any audit requirement.
According to Geoff Cook, chief executive of the island's financial industry promotional body Jersey Finance, the regime was drawn up on the basis of feedback from fund sponsors that 'simplicity, certainty and speed' were paramount in establishing alternative funds aimed at the most sophisticated investors.
'This is a significant step forwards for the funds industry in Jersey and a natural progression in our goal to become the European jurisdiction of choice for the alternative funds sector,' he says. 'Promoters of funds for high net worth individuals, sophisticated investors and institutions will have greater flexibility when choosing Jersey and will be able to structure their funds to suit both commercial and tax requirements.'
In just over three years from the launch of the Expert Funds regime in February 2004 to the middle of this year, 319 Expert Funds with total assets of GBP38.3bn were established in Jersey, including private equity, real estate and hedge funds as well as vehicles with more exotic investment strategies. Over the past couple of years the island has added the Listed Funds regime for funds listing on a stock exchange, particularly Euronext Amsterdam and the London Stock Exchange, and the Non-Domiciled Funds Guide to ease the regulations on servicing in Jersey of funds established elsewhere.
At the end of June Jersey serviced fund assets totalling GBP210.4bn, just under half of which was in traditional long-only vehicles, according to the regulator. It also had 234 private equity and venture capital funds with assets of GBP16bn, 134 property funds with GBP31.5bn, 378 hedge and absolute funds with GBP50.9bn in assets, and 98 other specialist funds including securitisation and derivatives vehicles with GBP11.5bn.
Earlier this month Lipper's latest Jersey Fund Encyclopaedia reported - admittedly using figures affected by the fluctuations in the dollar exchange rate - that the island's fund servicing industry had grown to USD225.9bn (GBP112.5bn) in 1,367 funds and sub-funds at the end of June, an increase of nearly 150 per cent from USD91bn (GBP59.7 billion) in mid-2002. Among funds domiciled on the island, Lipper found, the largest alternative asset class was real estate funds with total net assets of USD69.4bn, representing 41 per cent of total domiciled fund assets, followed by private equity and venture capital funds with USD33bn.
Whatever the exact numbers, industry practitioners are confident that the island enjoys a solid base on which to add a new string to its bow. The ultimate goal is for Jersey to challenge the Cayman Islands, home to at least half of the world's hedge funds, for some of its domicile business, especially from European managers and promoters.
The Unregulated Funds regime, Jersey practitioners note, will give Jersey at least one area of advantage over Cayman, which requires a local audit sign-off for its Registered Funds. 'We can offer an alternative to Cayman that offers the same ease of establishment but that is more convenient for European fund promoters,' Cook says.
The Unregulated Funds regime will comprise two categories, Unregulated Eligible Investor Funds, which will carry a minimum initial investment of USD1m (this requirement may be waived in certain cases), and Unregulated Exchange Traded Funds, which is designed for funds that are regulated through listing on a stock exchange and for which additional supervision in Jersey is therefore deemed superfluous. Investment warnings will be prominent to indicate that these funds are unregulated, and existing funds will not be able to transfer to the new regime.
Both closed-ended and open-ended funds are eligible for the regime, and they can be structured using companies, unit trusts or limited partnerships. Open-ended Unregulated Eligible Investor Funds are permitted to seek a listing, but only on stock exchanges that allow transfer restrictions, while Unregulated Exchange Traded Funds have a free choice of exchanges on which to list. There are no restrictions on the type of investor that may buy shares in these funds.
Fund industry professionals in Jersey believe the new categories will appeal to promoters including hedge fund managers and financial institutions for which an unregulated product is attractive, often because speed in bringing the product to market is essential. 'The unregulated funds regime is an interesting development and a bold move from Jersey,' says Ozannes corporate partner Mark Chambers. 'It's the way to build a significant fund industry within the island. It's been a successful model in Cayman, and with careful regulatory overview it could be quite successful for Jersey too.'
The new regime was drawn up by the Jersey Finance Working Group, chaired by Rupert Walker, who says: 'From the feedback we received, we found that there were many factors involved in the decision on a fund's domicile, of which regulation is only one. Also important is familiarity with the establishment process, as well as the proximity of the domicile to the sponsor and functionaries. The clients said that Jersey had room for improvement in terms of certainty, speed and simplicity.
'One option was to do nothing, but we concluded that there was a gap in the market for an unregulated fund product. There is a lot of movement right now at the lightly regulated end of the market, and it made no sense to offer an even more lightly regulated vehicle. We decided it was more honest to offer products that are unregulated and openly advertise that fact.'
There is no requirement on unregulated funds to use a Jersey-based administrator, directors or custodian, although Walker points out that there is no reason not to, given the depth of expertise on the island in administering complex and sophisticated fund products. 'Using a Jersey administrator would also establish a stronger connection with the islands when determining the jurisdiction of courts abroad over a fund,' he says.
Richard Thomas, a partner at law firm Ogier, chairman of the Jersey Funds Association and another member of the working party, says: 'We have been taking note of the regulatory changes that have been introduced in other jurisdictions, and following extensive consultation with the JFSC are now ready with a new element which has been missing from the Jersey product range in the form of unregulated funds.'
Jersey Finance technical director Robert Kirkby says the working party was established at the beginning of this year because industry practitioners were receiving feedback from clients that was critical about the limitations of the existing regulatory framework for funds. 'We also wanted to look at what we needed to do to position ourselves for the future,' he says. 'We were thinking about funds where we don't really know yet what asset classes they belong to, but we wanted to make sure Jersey enjoyed first-mover advantage with them.
'We spoke to a number of gatekeepers, promoters, hedge fund managers and private equity houses, and came back with a very clear message that there was no requirement for an additional layer of regulatory protection in Jersey for institutions and high net worth individuals who are professionally advised. Quite often those institutions or their advisers are regulated onshore anyway, but we were told that these clients were big enough to know what they are doing. The additional layer of regulation in Jersey was becoming costly and causing them difficulties when creating bespoke-type arrangements.
'The working group had to weigh up the demands of ensuring a good workflow but also maintaining the island's reputation as a well-regulated jurisdiction. Under the regime, provided the fund complies with certain criteria, it can pass through a portal that allows it to be unregulated. The essential point is that the regime only applies to funds aimed at sophisticated investors and institutions, and is in no way applicable to products for widows and orphans.'
Some industry observers have queried how the Jersey authorities can ensure that funds adhere to the criteria for escaping regulation once they have been launched, but Kirkby says self-regulation is the key. 'When a new fund is to be established in the island, a Jersey lawyer will inevitably be contacted, and although there is no legal requirement to do so they will make some relevant checks on the promoter,' he says.
'They don't want that promoter to be splashed all over the news in a year's time and to be associated with that. As for the promoter, he only needs to make one mistake and his reputation will be gone, and the same for whichever administrator is used, whether it's on or off the island - they will need a good reputation to maintain ongoing business. When funds go through the portal, Jersey advisers will ensure that the promoters are not involved in money laundering or have a reputation for recklessness. Everyone who operates here wants to make sure the island maintains its reputation.'
Kirkby describes Unregulated Funds as 'the final piece in the jigsaw' for Jersey. 'At one end we have the recognised fund regime that is very much for retail customers, with heavy regulation and lots of protection,' he says. 'Then there's the unrecognised fund regime, with the Experts Funds Guide and Listed Funds Guide, and now the unregulated regime, for clients that are very wealthy and know exactly what they're doing.
'We're positioned for the future, because often when a new asset class or a new type of structure comes along, Jersey and other offshore jurisdictions don't have the skill set to administer it. By providing a non-administrator-based location we can gradually learn from interaction with the promoter and the investment manager, we still get the domicile, and over time we can build up the administration base.'
It has already been noted that Unregulated Exchange Traded Funds are very unlikely to qualify for a listing on Euronext, where the attraction of Jersey funds has been an agreement with the Dutch regulator, the Financial Markets Authority, declaring the island's regulatory standards to be equivalent to those in the Netherlands. Kirkby agrees, saying: 'Unlisted funds won't be eligible for Euronext, we know that. Guernsey has applied for its Registered Funds and has been denied, so we don't expect it.
'However, where an exchange does permit an unregulated listing, it can go through this channel. In terms of the market, it's part of positioning ourselves for the future rather than any immediate flow of work. The biggest gain in the immediate future will probably be hedge funds looking for technical listings to satisfy the requirements of their investors.'
PricewaterhouseCoopers partner David Pirouet agrees, saying: 'Some hedge funds have taken technical listings in order to meet the requirements of certain investors such as pension funds, and the Unregulated Exchange Traded Fund product is designed to meet those criteria. It should still enable those listings to take place and meet the needs of funds launched for this types of investor.'
Kirkby cautions that the island can never rest on its laurels. 'The Expert Funds regime, introduced in 2004 and amended last year, was fantastic for the island,' he says. 'It really pulled us back into the alternative fund market - prior to that we were struggling. But the lesson of the 1980s and 1990s is that Jersey can't be complacent. We must plan for the future even when things are successful now, and this was one of the drivers for revisiting our funds offering.'
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