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Analysis: Investment trusts criticise proposed European reforms

The European Council has called for tighter regulation of financial markets, notably on the regulation of alternative investment funds, the role and responsibilities of depositories, and on the transparency and stability of the derivatives markets.

The financial crisis has clearly demonstrated the need to improve the regulation and supervision of financial institutions, both in Europe and globally, the council says. Following last weeks meeting in Brussels, it issued a report entitled, Presidency Conclusions of the Brussels European Council.

Addressing the failures exposed by the present crisis will continue to prevent future ones, the European Council says. The report refers to a proposed set of rules for managers of alternative investment funds, an attempt to increase regulation and oversight of sectors, and activities it considers as risky.

Under the new regulation, most non-Ucits funds, including investment trusts, would be classified as alternative investment funds.

Industry experts say it would be difficult and expensive for investment trusts in Britain to comply with these rules. In many cases, industry experts agree, the design of new rules is not suitable for investment trusts.

If enacted in their current form, the Association for Investment Companies (AIC) says these proposals are likely to have significant and damaging implications for investment companies.

Managers will be restricted by additional regulatory burdens and compliance costs as a result of new authorisation requirements, reporting obligations, and limitations on marketing, the AIC says.

For example, the rules proposed imply that investment trusts need an authorised fund manager who is responsible for management and administration of the fund alike.

In a statement, the AIC says the rules do not take account of the role of the board and fail to recognise that many investment companies choose to separate portfolio management and administrative activities.

Another point implies that assets must be independently valued at least once a year and each time shares are issued or redeemed. But the AIC says this will be particularly onerous and costly. Since shares in investment trusts, would be labelled complex financial instruments, it could be harder for retail investors to buy them.

The AIC adds that fund managers would face restrictions on delegating fund management and administration to non-EU firms, even for the management of assets outside the EU.

Simon White, the head of investment trusts at Allianz Global Investors, says under the new rules, the directive does not accommodate particular structures and characteristics of investment trusts.

They are lumping together all non-Ucits in the same category, he says. White says the regulation needs to be adapted and changed, adding that investment trusts in Britain have a long history and that their regulation has evolved over time. It is not the case that non-Ucits funds are more risky, he says.

The European Council insists that tighter regulation will help restore confidence in the financial system, in particular by enhancing the protection of depositors and consumers. The body says the move will facilitate the recovery of the European economy. It says it is important to build a comprehensive cross-border framework for the prevention and management of the financial crisis.

Daniel Godfrey, the AIC director general, says the AIC has always favoured appropriate regulation but he doesnt see anything positive about the new proposal.

They cant go ahead with the current directory, Godfrey says. Instead, he suggests, investment trusts traded on regulated markets should be removed from the scope of the directory.

One should ask whether new regulation is appropriate, proportionate, whether it is achieving its regulatory objective, and whether there is a regulatory gap to be filled. Our view is that [the directory proposed by the European Council] fails all of these questions.

Ever since the financial crisis started, regulators have been targeting hedge funds and private equity funds. The new proposal, however, covers all funds not regulated under Ucits.

The Alternative Investment Management Association, the hedge fund industry’s trade association, was not available for comment.

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