The UK Financial Services Authority (FSA) is proposing a new rule requiring any MiFID firm acting as a depositary for an authorized alternative investment fund (AIF) to hold 4 million fixed capital, thus making it subject to the same capital requirements as other firms performing the same activity. New depositaries that do not wish to act for authorized AIFs will not be subject to any national requirements on capital over and above the EU regimes specific to credit institutions or MiFID firms.
The proposal was contained in the FSAs first consultation paper on the Alternative Investment Fund Management Directive (AIFMD) as it looks to transpose the directive by July 22 2013.
Specifically for securities services, the Authority proposes a regime for depositaries, including eligibility, capital requirements and the requirement to act independently.
The paper aims to provide clarity to firms on those areas where the UK can apply its own requirements. The AIFMD applies to investment companies and a wide range of firms that manage funds, including hedge funds, private equity funds and retail investment funds.
The FSA says it is mindful of the competitive market to emerge for the provision of depositary services in the UK. Currently only a small number of firms carry on the regulated activity of acting as trustee or depositary of authorized funds. These are specialized roles, and while there is no reason in principle why the firms performing them should not extend their activities to a wider range of AIFs, there is equally no reason why other firms should not enter the market to meet the needs of AIFs that have not previously used a depositary.
Noting that a firm acting as trustee or depositary of an authorized fund requires minimum fixed capital of 4 million, the FSA asked the market whether this amount should be increased, and whether a different basis of calculation should be used. There were mixed views some respondents agreed that an increase was justified, if only to reflect inflation since the figure was originally set, but others argued that an own-funds requirement can never be sufficient to offset the potential liability where assets are lost, so other measures would be more appropriate. The FSA has decided not to make any changes to this rule for the time being, in light of the UCITS V proposals that aim to restrict the types of entity that can act as a depositary and to impose a higher standard of liability on them. We think it would be better to wait for the outcome of negotiations on these proposals before reviewing the capital requirements for depositaries of authorized funds, whether they are UCITS schemes or AIFs.
The FSA addressed the private equity AIF depositary model, where it explained that for certain types of AIF the role of depositary may also be performed by an entity which is subject to mandatory professional registration recognized by law or to legal or regulatory provisions or rules of professional conduct.
Addressing concerns in the industry that smaller fund managers may struggle to find a suitable depositary for their funds unless more firms are able to offer the service at a competitive price, unless the capital requirements for such firms were set lower than for depositaries of authorized funds, the FSA said: The UK Authorities consider there is sufficient support for this option to justify implementing it. We must determine exactly which categories of firm can benefit from this derogation and what requirements should apply to them. For convenience we refer in this chapter to PE AIF depositaries, since private equity funds are typical of the type of fund the regime is designed for (although some PE funds might not fit the specification, whereas some other types of fund will).
We have considered whether the DPB (designated professional body) regime is appropriate for PE AIF depositaries. Acting as a PE AIF depositary is not, in our view, the kind of exempt activity the DPB regime is intended for. Given our own responsibilities for supervising the proper implementation of the Directive, we believe it is necessary to ensure that all such firms are authorized.
Consequently, we propose that a firm acting as a PE AIF depositary should, as a minimum, hold own funds of at least 125,000. This would apply where the depositarys safekeeping duty is limited to verifying the ownership of the AIFs assets. If the firm intends to undertake higher-risk activities, such as providing custody of financial assets (to the extent that a PE AIF depositary would be allowed to do so) it may be appropriate for us to set a higher figure. We might do this by setting a higher own funds requirement, or by applying an expenditure-based requirement.
We believe that this approach to setting the capital requirement would be likely to make the provision of the service commercially competitive in terms of firms ability to enter the market. At the same time, it is high enough to provide a sufficient capital buffer for investor protection purposes in the event of the firm being unable to meet its obligations.
The consultation closes on Feb. 1 2013. The FSA will publish a second consultation in February 2013 on other aspects of AIFMD implementation.
(JDC)