Investment funds winning war on regulation

London dominates the $5-trillion-a-day foreign exchange market, trading twice as many dollars as the United States and more than twice as many euros as the entire euro zone, according to TheCityUK study.

The European Parliament appears to be striking the right balance on regulation of investment funds, a sign that the European Commission's proposals were "thoughtless" and "poorly-drafted," members of the investment community told EURACTIV.

Though much work has been done by MEPs to impose stricter rules on investment funds, the latest report written by French MEP Jean-Paul Gauzès has tipped the balance in favour of the industry, according to lawmakers and industry representatives. 

Some funds still balk at the idea of bonus caps but many welcome the dilution of proposals they believed to be harmful to the European economy. 

Gauzès has been asked by the Parliament to examine and redraft the Commission’s rules to be debated at the upcoming December plenary. 

Gauzès deletes EU passport 

So-called national private placement regimes, which the EU executive wanted to replace with an EU-wide passport, have made a comeback in the Gauzès report. 

Now the Commission’s insistence on “equivalent regimes” – requiring non-EU funds to stick to EU principles – has been diluted to “information-sharing agreements” between EU and non-EU funds. 

Major British financial institutions are “breathing a sigh of relief” as they will still be able to sell non-EU funds in the UK, an undisclosed source said. 

Leverage caps in ‘exceptional circumstances’ 

Some MEPs are disgruntled at a new concession on leverage caps, saying that Gauzès has capitulated to lobby interests from London. 

While EU officials admit that hedge funds did not cause the financial crisis, they say highly-leveraged funds can unsettle markets especially when they post losses. 

Funds will be asked to set their own limits on leverage – borrowed debt to increase investment. This is a significant departure from the Commission’s original insistence that all funds should be subject to caps. 

No more thresholds 

Gauzès wants to delete a provision on thresholds which would allow all funds that manage less than 100 million euro and some funds that manage less than 500 million euro to escape regulation. The rapporteur instead makes no distinction between funds. 

MEPs view this change as positive. However smaller funds are set to suffer, said a spokesman from the European Venture Capital Association (EVCA). 

The EVCA spokesman said that if this report swims, it will damage the amount of equity available to small and medium-sized enterprises. 

EU wants to bust short-selling 

The most controversial point to emerge from Gauzès’ report is that a European Securities and Market Authority – part of a separate Commission proposal on supervision – should have a mandate to stop short-selling and overrule non-compliant national authorities. 

“In exceptional circumstances and in order to ensure the stability and integrity of the financial system […] the European Securities and Markets Authority may take the decision to restrict short selling activities,” the report reads. 

Short-selling is a market-wide phenomenon that has no place in this regulation, according to a statement from the Alternative Investment Managers Association, AIMA, a London-based lobby. 

Private equity still disgruntled over depositaries 

The private equity and venture capital communities are still unhappy with EU proposals on depositaries – a third-party fund or bank for the safekeeping of investments – and have been seeking either an exemption or a separate regulation. 

Additionally they say the report creates regulation that has no bearing on the industry and imposes large costs. 

“Private equity and venture capital funds don’t short sell or use leverage at the fund level, and this has been our bugbear from the outset,” an EVCA spokesperson said. 

The rationale for a depositary comes from the Bernard Madoff scandal where Madoff was effectively able to pick the depositaries’ pocket and with that rob his investors. 

Industry sources say this was clearly fraud and a regulation imposing depositaries seems a bizarre remedy to criminal activity. 

But on the whole, financial institutions and lobbyists welcome the depositary schemes as a way to inject greater transparency as it should, in theory, benefit both investors and funds. 

On 29 April, the European Commission proposed a new set of rules for hedge funds and private equity firms, requiring mandatory registration and disclosure of their activities to regulators, while at the same time easing their access to European markets in the long term. 

The main regulatory component of the proposed legislation is an obligation for EU-based managers of so-called 'alternative investment funds' to register and disclose their activities, in order to improve supervision and avoid systemic risks. 

The obligations are not applied to the funds themselves, but only to their managers, who are considered responsible for key decisions. However, critics said that the exemption of funds from the proposed new regulation would leave hedge funds and private equity free to develop their investment policies, despite the fact that their risk-prone attitudes were strongly criticised during the financial crisis. 

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