In this article the Luxembourg-based team at CACEIS, the securities services joint venture between Crédit Agricole and Groupe Caisse d'Epargne, examine France's new regime.
France's alternative investment industry has taken a major step forward with the approval by the Autorité des Marchés Financiers, of the first funds under a regime known as ARIA EL.
The French acronym stands for Agréé à Règles d'Investissement Allégées, à Effet de Levier, and signifies that the fund is authorised to operate under less constrained investment rules and to use leverage.
The launch of this new category of funds is one of a series of recent innovations by the AMF to boost the onshore alternative investment industry in France, including the introduction of contractual funds. The significance of the new regime is that for the first time onshore funds that use a prime broker can be authorised for public distribution to institutions and qualified individual investors.
One of the first funds under the new regime was launched earlier this year by ADI Alternative Investments, with Credit Suisse First Boston acting as prime broker and CACEIS, the securities services joint venture between Crédit Agricole and Groupe Caisse d'Epargne, providing depository bank and fund administration services.
'This is a completely new category of funds for France,' says Anne Landier-Juglar, head of depository bank services to alternative funds at CACEIS. 'The new model has drawn on the example of the Irish and Luxembourg regimes to allow French funds to offer sophisticated alternative asset management.'
She argues that for both institutional and individual investors, the existence of an authorised structure and regulatory framework offers a level of assurance lacking in offshore hedge funds, which in any case cannot be marketed in France.
'This is a move to renationalise hedge funds,' Landier-Juglar said. 'I'm not sure that it will ever fully replace offshore funds, but offshore is not for everyone. It is a new development which is set to dynamise and open up the market for alternative investments in France, and is creating a new niche rather than taking market share away from other types of fund.'
She adds: 'France has a well-established tradition of sophisticated alternative asset management. The market already exists, but the new structures have given it fresh impetus by removing constraints to its development.'
CACEIS, which also acted as depository bank and fund administrator for the second ARIA EL fund to be established in France, has extensive expertise in the alternative investments sector from its experience as a hedge fund service provider in Luxembourg and Dublin. In total the business services assets amounting to around €71bn in alternative investments and structured products.
Offering depository bank sand custody services, fund administration, support for pan-European distribution and services to issuers, CACEIS is also operator of the Fastnet fund administration network. Fastnet has been built up by Crédit Agricole in partnership with the Fortis group and in addition to France, Luxembourg and Dublin, it also operates in Belgium and the Netherlands.
The introduction of the new alternative funds regime reflects the strength of France's hedge fund industry, but also the limitations of the existing regulatory framework. At the end of last year the country had around 30 alternative management companies and around 50 authorised funds, with long/short equity and convertible arbitrage the most common strategies.
The AMF also reported the existence of 30 FMINT, open-ended funds investing primarily in financial and commodity futures through a structure authorised by the authority's predecessor organisation, the as financial regulator in the late 1980s. In total French alternative onshore funds had an estimated €20bn under management at the end of 2004.
However, there was recognition that the existing provisions were no longer fully adequate to accommodate the needs of the fast developing alternative investment industry. For example, there were limitations on the way management companies could operate, on the notice periods funds could impose for subscriptions and redemptions, and on the amount of leverage they could use.
The framework legislation paving the way for ARIA and contractual funds as well as amendments to the traditional investment funds regime came into force in August 2003, but it was not until November 2004, following extensive industry and public consultation, that the AMF published the detailed rulebook for the new funds. The rules took effect the following month.
The regulations created three types of ARIA funds: simple, leveraged and funds of hedge funds. They allow funds to use prime brokers, to levy performance fees on the bases of absolute returns rather than by reference to an index, to impose notice periods and, in the case of ARIA EL funds, to provide valuations monthly rather than daily or weekly. They are also allowed to use gearing amounting to 400 per cent of the value of their assets.
Simple and leveraged funds must set a minimum investment of €10,000 for qualified investors with investible capital of at least €1m, or with at least a year's relevant professional experience in the financial sector, or €125,000 for all other investors.
The introduction of more complex investment structures, along with a greater emphasis on transparency among regulators and demands especially from institutional investors for more regular and detailed reporting, all pose new challenges for fund administrators and demand increased investment in back-office technology.
For example, for CACEIS the launch of the new funds has involved adopting the equalisation concept for calculation of performance fees. 'This is more fair than the usual calculation method,' says Landier-Juglar. 'However, it is difficult for the administrator because performance fee terms vary from fund to fund.'
Under the ARIA EL regime, the depository bank retains its responsibility under France's fund regulatory structure for monitoring the funds assets and ensuring its adherence to the investment policy. This function cannot be fulfilled directly, since the fund's assets are transferred to the prime broker for use as collateral in the leverage financing provided for the fund.
The depository bank therefore does not hold the assets in its account and cannot carry out its supervisory role in the same way that it would for traditional fund assets. Instead it provides a contractual framework for the relationship between the prime broker and depository bank that sets out the responsibilities of each party and lays down procedures for the daily information and reporting requirements to be undertaken by the prime broker to the depository bank.
'The new rules create a three-legged structure comprising the manager, the depository bank and the prime broker,' says Landier-Juglar, arguing that the delegation of direct supervisory functions from the depository bank to the prime broker strikes the right balance between security for the investor and flexibility for the investment manager.
The fact that only a handful of funds have so far taken advantage of the new regime after a year of operation should not be seen as reflecting any problem, she believes. 'Of necessity, the watchword is prudence at the launch of a new type of product,' says Landier-Juglar. 'Innovation will come later.'
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