Luxembourg – The Better Compromise

The case for the Grand Duchy

Originally published in the November | December 2016 issue

The EU referendum in Great Britain has brought Europe’s achievements back into public consciousness; many people had started to take those achievements for granted. One such institutional achievement is the European single market, which has made cross-border financial services possible. The 1985 UCITS Directive (85/611/EC) was an extremely successful standard for investment funds applicable for the first time in all member states.

This directive has made Europe more attractive in terms of global competition, because on the one hand it enables regulated competition for the best jurisdiction for fund vehicles within Europe, and on the other because it gives the European Union a strong competitive position, above all in Asia and South America. Investors and asset managers value this variety within a reliable, modern framework. Above all, the passporting introduced with Directive 2009/65/EC further strengthened competition within Europe, because it means that it is significantly easier for a fund authorised once by UCITS in an EU country to apply for an operating licence for other member states.

The right choice of location
For providers of UCITS funds, finding the most suitable location within the EU is a decisive factor for its product and its investors. When Aquila Capital was looking for a jurisdiction for a UCITS platform a good ten years ago, there were good reasons for choosing recognised fund locations such as Germany, France or Ireland. After intensive scrutiny and consideration of all the relevant aspects, the choice fell on Luxembourg, where, after thorough preparation, the UCITS platform finally got off to a successful start in 2007. But it was already clear to Aquila which country would become the leading jurisdiction for UCITS funds in Europe in the aftermath of the economic crisis.

Luxembourg took up the challenge and systematically improved its competitive position. Just a few years before, market participants had complained that the Luxembourg supervisory authority, the “Commission de surveillance du secteur financier” (CSSF), was not meeting its obligations as regards the supervision and authorisation of investment funds. It was supposed that this was due to a shortage of staff. The authority always denied this, but since then the number of its employees has increased significantly and continuously. 73 new jobs were created recently, boosting the total payroll to now over 600 people, and CCSF managing director Claude Marx has confirmed that this year and next will see further appointments. The growing need for expert staff cannot, however, be met solely by domestic experts in a country of 550,000 inhabitants, making it necessary to employ foreign specialists, too.

This development is to be welcomed by the fund providers, as the growth in knowledge and experience this entails should indeed also increase the supervisory authority’s understanding of the requirements of foreign asset managers in the future and ultimately strengthen the financial centre. Today, Luxembourg displays a high level of cultural plurality due to the European institutions, its geographical situation and the three official languages.

In addition, Luxembourg offers fund providers a specialised pool of product developers, lawyers, auditors and service providers, who can lend support in the design, roll-out and administration of their funds. This variety also ensures efficient implementation of fund projects and induces a high level of innovation.

36% market share in UCITS funds
Meanwhile, Luxembourg’s financial centre is the biggest investment fund location in Europe and worldwide is second only to the United States. Of the EUR 13,039 billion which, according to the European Fund and Asset Management Association (EFAMA), were under management at the end of March this year by European investment funds, EUR 3,395 billion (i.e. 26%) were in Luxembourg. The dominance of the Grand Duchy is even more marked when only the UCITS segment is considered. Here, the proportion of funds domiciled in Luxembourg, totalling EUR 2,847 billion in assets under management, is about 36%. Ireland and Great Britain are next, with 17.5% and 12.7% respectively.

The Grand Duchy is aware that, as market leader, it is under particularly intensive and critical scrutiny. In the past, the country was sometimes accused of regulatory arbitrage, i.e. softening or being more lax in applying rules in order to achieve a competitive advantage over other jurisdictions. We observe, however, that today the CSSF is anxious for this suspicion not to arise. This caution on the part of the supervisory authority has strengthened the “Made in Luxembourg” brand in the eyes of many investors.

From the start, Aquila Capital has consistently chosen the Grand Duchy and the UCITS format for its international business. Since 2007, Aquila Capital has provided many international asset managers with access to the European market, and its approximately 500 million inhabitants, through its Luxembourg platform. Assets under management worth EUR 1.5 billion are currently handled by the platform. In so doing, we take care not only of the operational implementation but also the associated sales and advice.

The most recent example of this is the collaboration with CBRE Clarion Securities, whose worldwide infrastructure equity fund is now accessible to investors through a liquid and regulated UCITS structure. We aim to develop this partnership model even further in the future. To this end, we proactively seek out asset managers whose products we are convinced are also attractive to institutional investors who value a regulated fund vehicle. We are helped in this respect by the continuing low interest rate environment and developments in the equity and bond markets that are causing professional investors to seek alternative investments with reliable yields and reasonable risks, and so primarily aim at giving greater emphasis to low-correlation strategies in their asset allocation. Most in demand are market-neutral strategies or multi-asset products. Aquila Capital has extensive expertise in these areas in both structuring and implementation, and can call upon a strong network of external specialists, partners and advisers, along with service providers, in order to implement these strategies.

Growing interest in UCITS in Asia and America
At the same time, personal conversations and enquiries are showing us that European, Asian and North American asset managers are increasingly interested in making their investment strategies available in UCITS format to investors in the EU.

The wider UCITS fund offer is again enjoying great interest among European investors. Investors, particularly in the German-speaking area, are seeking innovative investment solutions due to the low interest rate environment. This means there is demand for partners who not only have UCITS know-how, but who can also bring together asset managers and investors. Aquila Capital recognised this development early on, and opened up its platform in Luxembourg to third parties as well. As a result, Aquila Capital is today profiting from having a long history of expertise in collaboration with domestic and foreign asset managers and from having proven and trustworthy access to professional investors throughout Europe.

This view is confirmed by a survey we recently commissioned of 112 institutional investors all over the continent. It shows that 77% of investors expect that Asian and US asset managers will in future be offering additional funds in the regulated UCITS or AIF formats.

According to the investors, there are three main reasons for this. Three quarters of those asked see access to European investment capital as the most important driver. About half believe that the stricter European regulation of offshore investment strategies is prompting non-European providers to launch funds in accordance with European rules. One person in three is convinced that non-European asset managers have become more familiar with UCITS regulations than they were in the past. A significant majority of investors assume that for a fund launch in UCITS or AIF format, European partners are sought who have an asset management platform of the type that Aquila Capital offers from Luxembourg.

Moreover, our survey showed that 40.7% of institutional investors – including many from the United Kingdom – expect Luxembourg to be strengthened in its role as a leading UCITS jurisdiction following the British EU vote. This makes it clear how important the single European market and its further development has become for the investment fund industry. Against this background, Luxembourg, due to its cultural openness, its linguistic pluralism, the growing expertise of its supervisory authorities and the broad spectrum of service providers there, has prevailed as the most important location for UCITS funds in Europe, and developed into a financial centre of global significance. Taking into account all the factors relevant for investors and asset managers, Luxembourg is, when compared with fund centres such as Dublin or Malta, indeed the best compromise. The strategy of Aquila Capital – to get in early and build a UCITS platform in the Grand Duchy both for its own funds and for those of third parties – has therefore borne fruit.