At a time when alternative funds are being blamed in some quarters for exacerbating the financial industry crisis, if not necessarily actually provoking it, and politicians throughout the world are
At a time when alternative funds are being blamed in some quarters for exacerbating the financial industry crisis, if not necessarily actually provoking it, and politicians throughout the world are calling for greater regulation of hedge funds and their managers, it might seem incongruous that Jersey is currently revelling in the successful introduction of a new fund regime that does not involve any regulation all.
The island’s Unregulated Funds regime came into force on February 19 this year. Within two months of its launch 10 funds had already been established and the number has now grown to 26, despite a market environment in which fundraising for the majority of alternative strategies is tricky and many fund promoters are battening down the hatches.
‘Considering that the number of fund launches generally has slowed, the industry is encouraged by such a promising start,’ says Robert Kirkby, technical director at industry promotional body Jersey Finance. ‘We are seeing significant interest in the new regime and law firms on the island have reported a surge of enquiries about the new rules.’
The new regime was conceived after members of the island’s fund sector and the industry regulator, the Jersey Financial Services Commission, had considered adding an ultra-lightly regulated vehicle to its existing regime for alternative funds, introduced with the issue of the Expert Fund Guide in February 2004.
However, they concluded that merely refining the Expert Fund concept – due diligence performed by the fund’s administrator rather than the regulator, a 72-hour guaranteed authorisation turnaround – did not offer Jersey a significant advance that would provide it with a viable alternative to the Cayman Islands registered fund, the default standard for offshore hedge fund vehicles.
The Unregulated Fund regime is designed to challenge Cayman head on and go even a little further. Unregulated Eligible Investor Funds and Unregulated Exchange Traded Funds established under the new regime have no limit on the number of investors, no investment or borrowing restrictions and no requirement to use Jersey service providers, although they are subject to the island’s anti-money laundering rules. And unlike Cayman funds, they do not have to be audited.
‘It is really two regimes in one,’ says Daniel O’Connor, a senior associate in the corporate group of law firm Carey Olsen. ‘If you are listed on any one of 50 exchanges worldwide, you don’t need any further regulation in Jersey. And if you sell to sophisticated investors with USD10m in net assets together with their spouse, corporate or professional investors, or those investing USD1m, you come within the other unregulated fund regime.
‘To fall within the unregulated regime requires that a Jersey company is involved either as a general partner or a trustee, or for the fund to be a Jersey company, but otherwise there are no investment restrictions and no requirement for Jersey directors or service providers. It allows fund administration to be carried out wherever you want it. It’s very straightforward, you put a simple statement on the front of the prospectus saying, ‘This fund is not regulated in Jersey’. Being a notification-only regime enables a fund to be established in just a few hours.’
Alan Brint, a senior manager at Royal Bank of Canada in Jersey and head of RBC Wealth Management’s corporate and institutional business in the British Isles, says: ‘For many years Cayman has been a particularly attractive location for setting up unregulated funds relatively quickly and relatively inexpensively.
‘Jersey looked to get a slice of the alternative fund cake, and started off through the introduction of the Expert Fund regime four years ago. This is a natural evolution of that regime, focusing on lower requirement of institutional and sophisticated investors for protection and regulation of the funds.’
The regime is on the point of being refined to make it easier for limited partnerships and unit trusts as well as corporate fund structures to take advantage of its provisions. ‘At the moment the general partner of an unregulated limited partnership is in effect regulated,’ says Edward Devenport, a partner with Mourant du Feu & Jeune.
‘Unless you have an existing regulated limited partner, which is unusual, it makes it more difficult to use. At the moment a corporate fund is entirely unregulated in Jersey while a limited partnership is not, but hedge funds often use limited partnerships on their own or in combination with companies. That is a barrier at the moment but it should be addressed shortly.’
While the same issue applies to unit trusts, Devenport says, it would be less typical to set up a special-purpose vehicle as a trustee for a unit trust; in fact fund sponsors would normally use a professional trustee that is already covered by the regulatory framework. ‘But with limited partnerships you almost always set up an SPV general partner for each fund,’ he says.
The Jersey fund industry has not so far stressed the cost advantages of unregulated funds but Devenport says they should not be discounted. ‘One quite unusual thing about the regime is that there are no fees payable to the Jersey authorities,’ he says. ‘One might ask what’s in it for Jersey?
‘The view is that if that kind of business comes to Jersey, ultimately Jersey-based service providers will benefit. It’s not a requirement to use Jersey service providers other than in respect of a registered office, but I’ve seen several enquiries that envisage using a locally-based registrar or auditor, even though those are not compulsory. That’s the sort of thing one can expect to see more of if Jersey wins more business as a domicile.’
The introduction of unregulated funds is the latest stage in a process of reinvention of Jersey’s fund industry, once characterised by a focus on retail funds and promoters with established reputations, that became increasingly pressing as long-only funds aimed at a cross-border market started to disappear to European Union centres such as Luxembourg and Dublin.
‘There are still some funds aimed at the retail or lower-value end of the market, but the majority is much more for the higher end,’ says David Pirouet, a partner with PricewaterhouseCoopers. ‘Ashburton was established here a few years ago and continues to manage a range of long-only funds, but there are not many others left now. Lloyds and Barclays have retail products, but most of their funds have moved to Luxembourg.’
The launch of the Expert Fund regime was the catalyst for a surge in growth of the funds sector over the past four-and-a-half years, bringing assets under administration to GBP244.2bn at the end of June. Devenport agrees that this was the key development from a domicile perspective, although he points out that it would be quite wrong to assume there was no hedge fund industry in Jersey before 2004.
‘We have been involved with the Lyxor hedge fund platform, which has been domiciled in Jersey around for a decade and operated quite comfortably within the existing regime before Expert Funds were introduced. And aside from domicile, the island has been involved with other aspects of hedge funds that also predate the regime, such as collateralised debt obligation structures that may use a hedge fund manager.’
Richard Thomas, a partner with law firm Ogier and chairman of the Jersey Funds Association, says: ‘Jersey has earned a reputation over the years for its ability to adapt and tailor its services according to the prevailing markets, and its current regulatory regime, with the changes implemented this year, make us one of the most flexible European jurisdictions in the alternative fund sector. There is no doubt that flexibility and innovation will be crucial in maintaining the growth of Jersey’s funds sector in the current global financial climate.’
Devenport adds: ‘Jersey has been making big strides to attract hedge fund domicile business. Expert Funds were the first step, but there was recognition that there wasn’t an entirely level playing field in terms of competing with jurisdictions such as Cayman for domicile. That was the driver behind the Unregulated Funds regime.
‘No-one in Jersey is naïve enough think that as a result of that regime the Cayman domicile tap will be turned off and the Jersey tap turned on. It’s more about Jersey having a complete suite of regimes for all fund types, from unregulated funds at one end of the scale to recognised funds at the other, and in between products such as Expert Funds and Listed Funds involving a moderate level of regulation.’
Pirouet also notes that Jersey is seeing an increasing number of so called Cobo funds, set up under the island’s Control Of Borrowing Ordinance. ‘These are private structures typically set up by family offices or similar organisations, where the number of investors is restricted. They are quick and easy to establish, and the investment rules are flexible.’
In addition, he says, while Cobo funds appear in the official statistics, other private funds do not because the share offering is restricted to one particular family. ‘There are very large sums involved and they cover all the alternatives, hedge, private equity and property, but they won’t appear in the statistics,’ Pirouet says.
Michael Rothwell, managing director of LaSalle Fund Services in Jersey, plays down the concern that unregulated funds will cannibalise the Expert Funds and other existing regimes. ‘At the moment we’re not seeing any cannibalisation, although it’s still early days. But what’s important is not so much whether one part of the fund regime cannibalises another as whether administration work will stay in Jersey.
‘Jersey’s administration offering is a very strong one, especially in private equity and real estate. The island’s expertise is genuine and deep. Even if funds are launched within an unregulated fund framework, Jersey will remain the jurisdiction of choice in which to administer them, although we may see some level of offshoring, particularly of the back-office processing element, leaving the higher-end skills in Jersey.’
Last November the administration industry received a significant boost through changes to the legal structure for fund regulation that have made it easier for them to take on funds domiciled outside Jersey. By bringing fund administrators within the scope of the Financial Services (Jersey) Law of 1998, an overarching piece of legislation intended eventually to encompass the entire financial industry, service providers no longer need to apply for a separate permit for each new piece of business they take on.
‘The revisions mean a change from regulation of both fund and service provider to regulation of the service provider, but the fund only where it is Jersey-domiciled [and not an unregulated fund],’ Devenport says. ‘A Jersey-regulated provider with fund services registration can now service a non-Jersey domiciled fund without having to obtain specific approval to do so. For a Jersey-regulated fund there will be a process to go through, but again the service provider doesn’t have to obtain a specific permit to act in respect of that fund.
‘The changes are designed to promote efficiency and enable Jersey service providers to take on new business easily, and to a large extent supersedes the Non-Domiciled Fund Guide. If a Jersey-regulated service provider wants to service a non-Jersey domiciled fund it can just do it. It’s just a question of submitting a notification to the Commission.’
Bill Gibbon, a group partner in the commercial practice at Voisin, believes that while they will help administrators take on more non-Jersey funds, ultimately the changes will also attract more promoters to domicile funds in the island. ‘If they can confirm that they are acting for a fund that is materially equivalent to an Expert Fund, Jersey administrators can sell their services freely around the world,’ he says.
‘We assume there will be a high degree of confidence that a Jersey-regulated firm is an appropriate service provider because of the high standard of regulation. And hopefully on the back of that promoters will be minded to set up Jersey products as well.’
