What Is the AIFMD Regulatory Framework?
The Alternative Investment Fund Managers Directive (AIFMD) is a regulatory framework that governs EU-registered hedge funds, private equity funds, and real estate investment funds. It was introduced in response to the 2008-09 global financial crisis, which exposed the lack of oversight in the alternative investment sector. The primary objectives of the AIFMD are to safeguard investors and mitigate the potential systemic risks associated with these funds, thereby protecting the European Union and its economy.
Basics
The AIFMD is an EU regulation introduced in response to the lack of oversight in the alternative investment sector before the 2008-09 global financial crisis. It applies to a range of alternative investments and sets standards for marketing, raising private capital, remuneration policies, risk monitoring, reporting, and overall accountability. The primary goal of the AIFMD is to protect investors and reduce the systemic risks associated with alternative investment funds, ensuring the safeguarding of the EU and its economy.
The Principles of AIFMD Operation
In response to the global financial crisis, the European Union (EU) took measures to regulate the alternative investment industry, which included hedge funds, real estate funds, and private equity. These investments were largely unregulated before the crisis, both globally and within the EU.
To address this issue, the EU implemented the AIFMD in 2013. Instead of directly regulating the funds, the directive focuses on regulating the fund managers. This means that any fund manager operating within the EU, regardless of their location, must adhere to the AIFMD regulations.
Previously, institutional funds falling under the AIFMD were not subject to EU financial regulations concerning disclosure and transparency, such as the Markets in Financial Instruments Directive (MIFID), which aimed to promote transparency in the EU's financial markets.
The Main Goals of AIFMD
The AIFMD focuses on two primary goals. Firstly, it aims to protect investors by implementing stricter regulations on the disclosure of information. This includes disclosing conflicts of interest, liquidity profiles, and ensuring independent asset valuation. While alternative investment funds are primarily intended for professional investors, some member states may permit their availability to retail investors, provided additional safeguards are in place at a national level.
The second objective is to mitigate these funds' systemic risks to the EU economy. To achieve this, the AIFMD requires remuneration policies to discourage excessive risk-taking, mandates reporting of financial leverage to the European Systemic Risk Board (ESRB), and enforces the implementation of robust risk management systems that consider liquidity.
AIFMD Requirements for Selling Financial Services
To obtain a passport for selling financial services throughout the EU market, compliance with the AIFMD is mandatory. Despite hedge funds and private equity funds expressing concerns about the burden and potential negative impact on competition, they are still investing in compliance departments given the EU's significant economic standing. The AIFMD imposes several requirements, including:
- Business conduct: This encompasses the identification of conflicts of interest, fair treatment of investors, comprehensive disclosure of information, effective risk management, and appropriate remuneration policies.
- Minimum capital requirements: These include specific initial capital and total assets under management thresholds.
- Targeted marketing: The marketing efforts of funds must be solely directed towards investors within the EU.
- Investment safeguards: Investments must be safeguarded through the use of custodians and depositaries.
By adhering to these requirements, financial entities can fulfill the AIFMD obligations and gain access to the EU market through the desired passport.
Brexit Implications for AIFMD
Since the United Kingdom's withdrawal from the European Union, firms based in the UK have lost the benefit of the AIFMD passport. As a result, UK-based alternative investment fund managers can no longer market their funds in the EU using the AIFMD passport. However, there are transitional provisions allowing UK-based managers to continue marketing their funds in the EU under certain circumstances until the end of 2023. After this point, UK-based managers will need to rely on the national private placement regimes of individual EU member states to market their funds.
Conclusion
The AIFMD is a regulatory framework that safeguards investors and reduces systemic risks associated with EU-registered hedge funds, private equity funds, and real estate investment funds. It imposes stricter regulations on the disclosure of information and is mandatory for selling financial services throughout the EU market. Following Brexit, UK-based alternative investment fund managers can no longer market their funds in the EU using the AIFMD passport.