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The Ucits amendment

The advent of the Euro has intensified the speculation as to the future of sterling and the pros and cons of the EU.

One area which gets little press coverage is how the EU is impacting retail financial services. The intangible nature of financial products in some ways make them ideal products to be sold across Europe.

Someone from Holland investing in US equities should have no problem buying the same fund as someone from the UK, France or Italy. The practice is never quite as simple as the theory, but the EU does seem keen to drive harmonisation – through both regulatory fine tuning and removal of tax anomalies.

To ensure a level regulatory playing field an EU directive – the Ucits directive – was passed in 1985. This meant that a Ucits qualifying investment fund effectively has a passport to be sold in any EU market.

The fund will still have to be registered with the local regulator but this is a formality. The local regulator is theoretically unable to refuse registration – albeit they can take a couple of months to complete the process.

On the face of it, therefore, the Ucits directive goes a long way to stimulating the pan-European fund industry – its success is evident from the number and volume of funds under management in Luxemburg and Dublin.

That said, given that the directive is over 15 years old, it is no surprise that it has shortcomings, particularly in respect of product flexibility. There has been consensus for many years that amendments are required. Unfortunately, it has also taken many years to agree what the amendments should be. But late last year the European Parliament passed some amendments which must become effective in all member states by the end of 2003.

The amendments can be split into two categories – those affecting products and those affecting management companies. I will focus here on the product issues.

Fund of funds

Probably the most important change is the introduction of rules allowing fund of funds as Ucits. The general investment restrictions for qualifying fund of funds will be:

No more than 20 per cent of its fund value may be invested in a single fund

A fund may not hold in excess of 25 per cent of issued securities of another fund

Investment in non-Ucits funds is limited to 30 per cent of fund value

For a fund of funds investing in units of investment funds of the same management group, double charging is prohibited so far as subscription and redemption fees are concerned.

The latter two are new for UK funds – we can expect the current FSA regulations to be brought into line accordingly.

Index funds

The diversification rules applying to index funds have been relaxed to allow 20 per cent of the fund&#39s value to be invested in a single stock, as opposed to the current limit of 10 per cent.

In some circumstances, where a stock is highly dominant in a particular index, this may be raised to 35 per cent. UK representatives argued against this as it creates an uneven playing field between actively and passively managed funds. Unfortunately, opinions could not be changed.

Derivatives and derivative funds

Derivatives may now be employed as part of the investment strategy of a Ucits rather than being restricted to efficient portfolio management and currency hedging. This opens the way not only for more flexible use of derivatives but also the introduction of derivative funds. The directive stipulates that overall risk must be monitored at all times with short selling not permitted.

As well as the changes to specific product areas mentioned above, the amended directive introduces a simplified prospectus as an additional marketing document.

The simplified prospectus must contain the key information for the evaluation of the Ucits. It must be structured and written in a manner “easily understood by the average investor”. The simplified prospectus must be offered to subscribers, while the full version and annual and interim reports must be available on request.

Some of the changes mentioned may seem a little academic and not relevant to the day to day work of an adviser. That said, these changes, along with others to come, make it ever more viable for fund management companies to tackle the whole of the EU marketplace (including the UK) from a single range of funds.

Expect to see more unfamiliar names targeting the UK with Luxemburgor Dublin-based funds as well as UK groups targeting ex-UK business with UK products.


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