Central Bank of Ireland and ESA updates

1. Central Bank of Ireland hosts asset management sustainable finance seminar

On 14 November 2022, the Central Bank of Ireland hosted a seminar covering a broad range of sustainable finance-related topics that were specifically relevant to the asset management sector, including the importance of the Sustainable Finance Disclosures Regulation (‘SFDR’), the impact of the requirements on investment funds, matters and challenges related to data availability and the Central Bank’s supervisory strategy in this area.

The seminar was addressed by a number of individuals, including Antonio Barattelli of the European Securities and Markets Authority (‘ESMA’), who discussed the EU Single Rulebook, supervisory convergence, and greenwashing, and included a panel discussion touching on a range of topics, such as disclosures, data availability, and the complexity of the SFDR regime.

The seminar was also addressed by the Central Bank’s Deputy Governor, Derville Rowland, who addressed both the European and domestic landscape in this area, as well as the Central Bank’s expectations in this regard. Ms Rowland noted that, at a European level, the industry had seen the implementation of key legislative changes, including the implementation of the SFDR and Taxonomy Regulation, with ambitious timelines associated with each. These were intended to provide increased transparency on ESG characteristics and the integration of sustainability risks at a product and entity level via various disclosures.

In February 2022, ESMA published a Sustainable Finance Roadmap, which identified three core principles, namely: (i) tackling greenwashing and promoting transparency; (ii) building the capacity of both National Competent Authorities and ESMA in the sustainable finance field; and (iii) monitoring, assessing and analysing ESG markets and risks.

Ms Rowland advised that the ESMA Supervisory Briefing on sustainability risks and disclosures in the area of investment management provided clear expectations in respect of SFDR disclosures, and that ESMA also planned to conduct a Common Supervisory Action on sustainability risks and disclosures in 2023.

With respect to Ireland, Ms Rowland noted that the Central Bank had established a dedicated Climate Change Unit in 2021 to drive forward its agenda on climate change risk assessment and sustainable finance, and had also established a Climate Risk and Sustainable Finance Forum which met for the first time in June 2022.

In addition, in November 2021, the Central Bank issued a letter to regulated firms setting out its supervisory expectations relating to climate, environment and ESG issues in five key areas, including: (i) governance; (ii) risk management framework; (iii) scenario analysis; (iv) strategy and business model risk; and (v) disclosures.

In this regard, the Central Bank’s approach includes legislative implementation and supervision of the new requirements in this area, including the SFDR, the Taxonomy Regulation and the amendments to UCITS / AIFMD for management companies, and will continue to evolve regulatory policy for the asset management sector as required in the years ahead.

For now, Ms Rowland noted that the implementation of the SFDR requirements was a key area of focus for the Central Bank, and noted, in particular, the application from 1 January 2023 of additional requirements under the SFDR Level 2 disclosure obligations, which the Central Bank considered to be instrumental in terms of the level of information that investors will now have about the products in which they invest. Ms Rowland also advised that the Central Bank was currently undertaking a thematic review of funds’ compliance with these requirements.

Ms Rowland also advised that the Central Bank had high expectations of the funds sector in this area. In particular, Ms Rowland advised that it was important for fund managers to continuously review fund documents to ensure they remain specific to the fund, and that all SFDR and related requirements were complied with.

In this regard, fund managers should seek to provide clear and complete details on the sustainable, environmental and/or social characteristics of a fund’s portfolio, and it was imperative that disclosures to investors were clear and accurate and not misleading.

Finally, Ms Rowland advised that the Central Bank also published an information note on this area, which included findings of the gatekeeper review of investment fund disclosures (including good practices) and Central Bank expectations around the implementation of the next phase of SFDR.

The information note is designed to inform and assist industry in ensuring that investors and the market can have a high degree of trust and confidence in green and sustainable products produced and sold from Ireland.

2. Central Bank of Ireland introduces leverage limits and liquidity management guidance for Irish funds investing in Irish property

On 24 November 2022, the Central Bank of Ireland published its macroprudential policy framework for Irish property funds, following a consultation in November 2021 on proposals to enhance the resilience of the property fund sector in Ireland (CP145). The measures are being introduced in order to protect against potential risks in the Irish property fund sector, and against the backdrop of Irish property funds’ investment in Irish commercial real estate (‘CRE’) having grown in recent years, with such funds holding a total of €22.1bn in Irish property (35% of the Irish ‘investable’ CRE market).

Although this form of financial intermediation has brought many benefits, including the diversification of CRE financing, it also raises the potential that new macro-financial vulnerabilities could emerge. The Central Bank carried out a Deep Dive Survey in 2020, which highlighted the potential financial vulnerabilities that could lead to forced selling behaviour by the property fund sector as a whole, with knock-on effects for the financial sector and real economy. In this regard, leverage, and (to a lesser extent) liquidity mismatch, have been identified as sources of financial vulnerability in the property fund sector that could trigger such widespread forced sales by property funds in the event of adverse shocks.

The measures consist of:

(a)   A 60% total debt-to-total assets leverage limit, by way of a condition of authorisation under Regulations 26 and 9 of the Alternative Investment Fund Managers (‘AIFM’) Regulations as appropriate, which will be subject to a 5-year implementation period for existing funds until 24 November 2027.

The Central Bank has advised that it will only authorise new property funds with leverage below the 60% limit. However, funds investing in at least 80% of AUM in social housing will not be within the scope of the leverage limit, subject to meeting a number of criteria, including social housing funds holding long-term leases, with guaranteed income, and with no LTV covenants or repayment-on-demand features associated with the debt. Property funds pursuing development activity may use a different methodological framework for the purpose of calculating leverage on those specific assets.

(b)   Central Bank Guidance on the application of Regulation 18 of the AIFM Regulations regarding the minimum liquidity timeframe expected for property funds (Appendix 1).

The Central Bank generally expects property funds to have a minimum liquidity timeframe of at least 12 months, taking into account the nature of the assets held, and will provide an 18-month implementation period for existing funds to take appropriate actions in response to the Guidance. The Central Bank expects that property funds authorised on or after 24 November 2022 will adhere to the Guidance from inception.

Announcing the introduction of the framework, the Governor of the Central Bank, Gabriel Makhlouf, noted that these measures were being applied to ensure that investment funds are better able to absorb, rather than amplify, downturns in the property market, which will, in turn, better-equip the sector to continue to serve as a sustainable source of financial intermediation. He further noted that the Central Bank was taking a two-pronged approach to strengthen the resilience of the investment fund sector, mitigating the risks to investors, consumers and the wider economy, namely implementing macroprudential tools to safeguard the resilience of the segment of the sector most closely linked to the domestic economy, while at the same time engaging with its international colleagues to develop and implement a macroprudential framework for non-banks internationally.

The Central Bank will closely monitor the adoption of the measures, their impact, and will conduct a periodic review of the framework and regular monitoring of the leverage limits to ensure that they are achieving their macroprudential aims and not imposing an undue burden on market participants or on the broader economy. The property fund policy measures will also be subject to a periodic framework review, which would include the impact of these macroprudential measures, the evolving macro-economic and financial risk environment and any unintended consequences of the policy.

Advising on the introduction of the framework, ESMA stated that the conditions for taking actions under the AIFM Directive were met and that the measures were justified and should contribute to improving the resilience of real estate funds and limiting the build-up of risk in the CRE sector. ESMA assessed the risks posed by Irish real estate funds and found that a significant number of them had elevated levels of leverage. For Irish real estate funds using leverage, this was, on average, higher than in equivalent funds in the rest of the EU.

In addition, considering the large market footprint of Irish real estate funds on the CRE market, these funds have the potential to amplify shocks affecting this market through disorderly asset sales, with broader macro-financial implications. For these and other reasons, ESMA considered that the leverage limit proposed by the Central Bank was appropriate to address the concerns relating to the stability and integrity of the financial system, and recommended that the Central Bank closely monitor the evolution of the Irish real estate sector to ensure the effectiveness of the measures and to assess the necessity to recalibrate the leverage limit.

3. Central Bank of Ireland issues industry letter on liability-driven investment funds

On 30 November 2022, the Central Bank issued a letter addressed to LDI fund managers on considerations around the management of LDI Funds, following engagement between the Central Bank of Ireland, the Commission de Surveillance du Secteur Financier (‘CSSF’), and ESMA. The letter notes that the recent volatility in yields associated with UK gilts exposed vulnerabilities in LDI fund products, giving rise to a concerning cycle of collateral calls and forced sales. Throughout this period, the Central Bank, ESMA and the CSSF (‘the NCAs’) engaged proactively with the managers of LDI Funds with a focus on LDI Funds denominated in Great British Pounds (‘GBP’). Resilience of GBP LDI Funds across Europe has subsequently improved, with the NCAs expecting that levels of resilience and the reduced risk profile of GBP LDI Funds are now maintained, and do not consider that any reduction in the resilience at individual sub-fund level is appropriate at this juncture.

The letter goes on to provide that, to the extent that it is considered necessary to advertently reduce an individual GBP LDI Fund’s resilience below the levels that were achieved in the period following the dislocation in the UK gilt market:

  1.  the NCA supervising the investment fund manager (and in the case of cross-border setups, the NCA in the country where the LDI Funds are domiciled) should be informed in advance of the proposal to advertently reduce an individual GBP LDI Fund’s resilience and of the level; and
  2.  complete a number of actions to be taken prior to making any reductions (with documents to be made available to the above-mentioned NCAs upon request), including:
    1. Undertaking and documenting a detailed analysis justifying the need to reduce the GBP LDI Fund’s current resilience.
    2. Completing and documenting a risk assessment with relevant modelling of how the proposed reduction in the GBP LDI Fund’s resilience will not impact the orderly functioning of the GBP LDI Fund in the current and in stressed environments.
    3. Detail and document a step-by-step plan for returning the GBP LDI Fund to current levels of resilience in the event of increased market volatility, noting any assumptions that the framework is based on.

The GBP LDI Fund must ensure that clear policies and procedures are established to increase resilience in the event of further volatility in the market, and, in the event of an inadvertent decrease of GBP LDI fund resilience due to a changing market environment, the NCAs expect the GBP LDI Fund to have procedures in place to recapitalise and/or de-risk their portfolios by reducing their exposures following exceptional market circumstances in a timely manner. For LDI Funds in other currencies, the above-mentioned notification system does not apply for the time being.

ESMA welcomed the initiative, and noted that it supported coordinated supervisory actions and information sharing among NCAs, as well as converging measures to address risks which may pose a potential threat to financial stability.

4. Central Bank of Ireland publishes latest AML bulletin

In November 2022, the Central Bank of Ireland published issue 7 of its Anti-Money Laundering Bulletin, focusing on fund entities such as UCITS, AIFs, including Self-Managed Investment Companies (‘SMICs’) and additionally, their UCITS management companies and AIFMs. The bulletin notes that the Central Bank has conducted a number of AML/CFT/FS supervisory engagements with funds and FMCs (‘firms’) to monitor compliance with the Criminal Justice (Money Laundering and Terrorist Financing) Act 2010 (‘CJA 2010’). In the course of these engagements, the Central Bank identified a number of areas where firms must introduce enhancements in order to ensure they can sufficiently demonstrate compliance with the requirements of CJA 2010, namely:

  • Corporate Governance ­­– the Central Bank has identified a lack of oversight by firms of their AML/CFT/FS frameworks, with a number of firms failing to demonstrate effective oversight, implementation and management of the AML/CFT/FS framework, including minutes not reflecting adequate discussion and challenge, and a failure to demonstrate that appropriate action was taken to address identified deficiencies.
  • AML/CFT/FS Business Risk Assessment – in completing their Business Risk Assessments, firms did not sufficiently demonstrate that they had undertaken a comprehensive review to include inherent ML/TF risks, including a number of firms not having any business risk assessment in place, and even where this was in place it did not accurately or appropriately reflect the inherent ML/TF risks associated with the sector.
  • Outsourcing of AML/CFT/FS Activities – the Central Bank continues to identify weaknesses in firms’ oversight of AML/CFT/FS activities delegated to, and undertaken by, third parties on their behalf, with a number of firms not demonstrating that there were appropriate arrangements in place governing the outsourced activities, and outsourcing arrangements not always subject to regular review and assessment at an appropriate senior level.
  • Customer Due Diligence (‘CDD’) – in some instances firms had ineffective CDD control frameworks in place to ensure that customers are fully identified and verified prior to processing transactions, and oversight of CDD Policies and Procedures was not in line with Central Bank expectations in a number of areas.

Finally, the bulletin advises that the Central Bank expects firms to have implemented effective governance, risk and control functions and to be able to demonstrate to the Central Bank:

  • Sufficient oversight of the AML/CFT/FS framework to ensure compliance with the requirements of CJA 2010;
  • The identification and management of ML/TF/FS risks to which they are exposed as being an iterative and ongoing cornerstone of the firm’s AML/CFT/FS framework; and
  • Continual review and assessment of existing processes and procedures to enhance the AML/CFT/FS framework on an ongoing basis, so that firms are well-positioned to respond to emerging risks, legislative changes and regulatory guidance.

The Central Bank will continue to conduct supervisory engagements with firms in this sector and expects firms to be in a position to demonstrate that they have reviewed the findings and expectations detailed in the bulletin and, where gaps/weaknesses are identified, that sufficient steps be taken to remediate the identified gaps/weaknesses.

5. Central Bank of Ireland launches consultation on own funds requirements for UCITS management companies and AIFMs authorised for discretionary portfolio management (CP152)

On 1 December 2022, the Central Bank of Ireland launched a public consultation (CP152) signalling the Central Bank’s proposed approach to the own funds requirements for UCITS management companies authorised under Regulation 16(2) of the UCITS Regulations 2011, and for AIFMs authorised under Regulation 7(4) of the AIFM Regulations 2013. Under these regulations, the level of own funds required to be held by such firms is directly proportional to the level of collective assets held.

UCITS management companies and AIFMs so authorised may perform discretionary portfolio management and provide additional non-core services under the above regulations, respectively, however UCITS management companies and AIFMs are not subject to own funds requirements at an EU level related to the provision of such services. In the interest of maintaining a level playing field with investment firms authorised to provide discretionary portfolio management services under the MiFID II Regulations, and subject to own funds requirements under the Investment Firms Regulation (‘IFR’), the Central Bank is proposing to introduce bespoke own funds requirements for UCITS management companies and AIFMs authorised to provide discretionary portfolio management and additional non-core services via Central Bank regulations and a condition of authorisation.

The Central Bank therefore proposes that:

  1. A UCITS management company or AIFM that meets all of the conditions to be a small and non-interconnected firm will be subject to the own fund requirement set out in Regulation 17 of the UCITS Regulations and Regulation 10 of the AIFM Regulations, respectively.
  2. UCITS management companies and AIFMs authorised to provide discretionary portfolio management services and non-core services that do not meet conditions to be a “small and non-interconnected firm” (modelled on similar conditions under the IFR) will be required to apply the higher of the own funds requirement under the UCITS Regulations/AIFM Regulations as applicable, or, a Risk to Client K-factor own fund requirement modelled on the Risk to Client K-Factor applicable to MiFID investment firms under the IFR.

UCITS management companies and AIFMs authorised to provide discretionary portfolio management services will continue to be required to undertake an ICAAP in line with a similar requirement applicable to all MiFID investment firms.

The closing date for responses is 23 February 2023.

6. Central Bank of Ireland’s Director of Securities and Markets Supervision addresses fund management company effectiveness

On 6 December 2022, the Central Bank of Ireland’s Director of Securities and Markets Supervision, Patricia Dunne, delivered a speech that addressed the Central Bank’s latest work on fund management company (‘FMC’) effectiveness, the structure of the sector, and next steps in this area. Ms Dunne noted that the Central Bank’s FMC framework set out the Central Bank’s expectations in respect of the governance, management and oversight requirements and arrangements within FMCs.

The thematic review carried out in 2019, the findings of which were communicated in an industry letter in October 2020, highlighted a number of shortcomings, and in June 2022, the Central Bank conducted a follow-up survey in this area to assess how the findings had been addressed. Ms Dunne advised that progress has been made, with encouraging signs that the step change sought by the Central Bank was beginning to take place. The review has also driven significant change in the FMC landscape in Ireland, and also shows that the sector has changed materially in terms of scale, structure and complexity over the past 3 years, to include:

  • A significant decrease in the number of firms operating in Ireland, despite sizeable growth in AUM, including a 90% decrease in the total number of SMICs operating in Ireland due to large-scale restructuring, predominantly as a result of migration of business to third party FMCs and, to a lesser extent, re-domiciliations, liquidations and consolidations.
  • Significant growth in those FMCs providing services to third-party funds, with AUM among this group of firms now in the region of €540bn.
  • Growth in the level and extent to which FMCs are providing MiFID services such as Individual Portfolio Management (‘IPM’), with AUM for IPM services of €432bn.

While the recent survey results highlighted that the majority of FMCs had embraced the changes and have engaged positively with supervisors, there was a cohort of firms that still had some to work do to fall in line with their peers.

  • CEOs – 67% of FMCs now have a dedicated CEO, representing a 50% increase since 2019. The Central Bank notes the clear benefits this change has had in its engagement with FMCs, and as outlined in its 2020 industry letter, expects that all but the smallest FMCs appoint a CEO.
  • Director time commitments – on average, time committed by directors almost doubled since 2019, reflecting another positive move. However, directors needed to be mindful of their overall time commitments to ensure it remains sustainable, and the Central Bank will continue to monitor this through its gatekeeping and supervisory engagement, and will provide challenge where the number of directorships is considered excessive.
  • Designated Persons & Support Staff – positive changes in the level of resources within managerial functions, with the average FTE increase per firm rising from 3.2 in 2019 to 10 in 2022. Resources in FMCs will be continuously monitored and should grow in line with the nature, scale and complexity of the business.
  • INED Tenure – the number of INEDs with a tenure of greater than 10 years has decreased by 7%, from 25% in 2019 to 18% in 2022. While that signalled a move in the right direction, Ms Dunne advised that it still reflects a sizeable number of directors who continue to be classified as independent but have been in situ for 10 years or more, and the Central Bank expects that tenure and independence continue to be considered as part of the Organisational Effectiveness Director’s (‘OED’s’) review of Board composition and forms part of related reporting to the Board.
  • Board Diversity – there has been a marginal increase in the number of directorships held by women from 16% in 2019 to approximately 20% in 2022. However, a significant gender imbalance still exists at Board level and the Central Bank expects FMCs to consider diversity as part of ongoing internal governance reviews, including due consideration of factors such as skills, age, gender, culture and ethnicity.

These findings were set out in an industry letter of 7 December 2022, which the Central Bank expects to be discussed by the Board and any areas requiring improvement that directly relate to a firm be given due consideration to ensure robust and appropriate governance arrangements are in place.

Ms Dunne also discussed the future of the funds sector for FMCs, and addressed the attention being given at an EU level to the concept of “Open Strategic Autonomy” in the context of Brexit and holdings of Irish investment funds in UK gilts. In this context, Ms Dunne noted that there was an intense spotlight on activities with linkages to third countries, particularly where an EU firm or fund delegates or outsources activity outside of the Union. Ms Rowland noted that the proposals emerging from the AIFMD review, while still to be finalised, are likely to bring targeted changes to the current regime to enhance the reporting of delegation activity, particularly to third countries.

Such proposals mark the start of a longer-term process that will take a deeper and more comprehensive look into delegation in Europe, with ESMA expected to carry out a peer review in this area in 2024. Ms Dunne also addressed the SFDR and the publication of the recent information note on this topic (see above), noting that the next phase of SFDR implementation was important, and that the Central Bank expected firms’ implementation of these requirements to be well-progressed, noting further that most funds had submitted their updated documentation as part of the Central Bank’s streamlined authorisation process for these updates.

7. Central Bank of Ireland publishes updates to the pre-submission process for Qualifying Investor AIFs proposing to invest in Irish property assets

On 7 December 2022, the Central Bank of Ireland updated the pre-submission process for Qualifying Investor AIFs investing in Irish property assets. This follows the recently-published macroprudential policy framework for Irish property funds.

8. ESAs issue call for evidence on greenwashing

On 15 November 2022, the European Supervisory Authorities (‘ESAs’) issued a call for evidence seeking input on potential greenwashing practices in the EU financial sector. This follows a request for input from the European Commission relating to greenwashing risks and supervision of sustainable finance policies. The ESAs are interested in collecting:
  1. views from stakeholders on how to understand greenwashing and what the main drivers of greenwashing might be;
  2. examples of potential greenwashing practices across the EU financial sector relevant to various segments of the sustainable investment value chain and of the product lifecycle; and
  3. any available data to help the ESAs gain a concrete sense of the scale of greenwashing and identify areas of high greenwashing risk.

Evidence is also sought in relation to potential greenwashing practices both within and outside the scope of current EU sustainable finance legislation, and respondents are encouraged to consider providing examples of potential greenwashing practices relating to products, practices, and/or to documents or other means of communication of claims currently not explicitly covered by the EU sustainable finance legislation (e.g. references to ESG awards in marketing materials, claims on websites etc.).

The deadline for comments is 10 January 2023.

9. ESAs publish Q&As on SFDR RTS

On 17 November 2022, the ESAs published Questions and Answers (Q&A) on the SFDR Delegated Regulation (Commission Delegated Regulation (EU) 2022/1288). Among the areas addressed are:

  • Current value of all investments in principle adverse impacts (‘PAI’) and taxonomy-aligned disclosures;
  • PAI disclosures;
  • Financial product disclosures;
  • Multi-option products;
  • Taxonomy-aligned investment disclosures; and
  • Financial advisers and execution-only financial market participants.

10. ESMA consults on guidelines for use of ESG or sustainability-related terms in funds’ names

On 18 November 2022, ESMA launched a public consultation on guidelines for the use of ESG or sustainability-related terms in funds’ names. In order to tackle greenwashing risk in funds, ESMA seeks to provide guidance on funds’ names indicating quantitative thresholds for the use of ESG- and sustainability-related terminology in funds’ names so that marketing communications are clear, fair and not misleading and that the fund managers are acting honestly. The use of ESG- and sustainability-related terminology in fund names should be used only when supported in a material way by evidence of sustainability characteristics, or objectives that are reflected fairly and consistently in the fund’s investment objectives and policy and its strategy as described in the relevant fund documentation.

In this regard, the consultation seeks the views of stakeholders on a proposal to promote supervisory convergence in the assessment by NCAs of the use of ESG- or sustainability-related terms in funds’ names in order to ensure that investors are protected against unsubstantiated or exaggerated sustainability claims while providing both NCAs and asset managers with clear and measurable criteria to assess names of funds including ESG- or sustainability-related terms.

The main elements of the consultation paper are:

  • a quantitative threshold (80%) for the use of ESG-related words;
  • an additional threshold (50%) for the use of “sustainable” or any sustainability-related term only, as part of the 80% threshold;
  • the application of minimum safeguards to all investments for funds using such terms (exclusion criteria);
  • additional considerations for specific types of funds (index and impact funds).

ESMA proposes that the draft guidelines would become applicable 3 months after the publication of their translation on the ESMA website. Furthermore, a transitional period of 6 months is suggested for those funds launched prior to the application date, in order to comply with the Guidelines. The deadline for submissions is 20 February 2023.

11. European Commission adopts package to ensure better data access and revamped investment rules

On 25 November 2022, the European Commission adopted a package of measures to ensure better data access and revamped investment rules. The proposals deliver on several commitments in the 2020 capital markets union (‘CMU’) action plan, and will help connect EU companies with investors, improve their access to funding, broaden investment opportunities for retail investors and better integrate capital markets.

The package includes four legislative proposals, including:

  • A proposal for a European Single Access Point (‘ESAP') Regulation, which will offer a single access point for public financial and sustainability-related information about EU companies and EU investment products, and will give companies more visibility towards investors. It will also contain sustainability-related information published by companies, which will support the objectives of the European Green Deal.
  • A proposal for a review of the European Long-Term Investment Funds (‘ELTIFs’) Regulation, aimed to increase the attractiveness of ELTIFs for investors and their role as a complementary source of financing for EU companies. It will also make it easier for retail investors to invest in ELTIFs, in particular by removing the minimum €10,000 investment threshold, while ensuring strong investor protection.
  • A proposal for a review of the Alternative Investment Fund Managers Directive (‘AIFMD’), which aims to harmonise the rules related to funds that give loans to companies, which will facilitate lending to the real economy while better protecting investors and ensuring financial stability. The review also clarifies the rules on delegation.
  • A proposal for a review of the Markets in Financial Instruments Regulation (‘MiFIR’), enhancing transparency on capital markets with the introduction of a “European consolidated tape”, which will give investors access to near real-time trading data for stocks, bonds and derivatives across all trading venues in the EU. The review will also enhance the level playing field between stock exchanges and investment banks and will promote the international competitiveness of EU trading venues by removing the open access rule.

With respect to the proposal for a review of the AIFMD, the review proposes targeted and proportionate improvements to the current regulatory framework, addressing a number of regulatory gaps, and where EU action is needed, in particular:

  • Common rules on loan-originating funds, which will allow loan-originating funds to operate cross-border and ensure that they can be an alternative source of funding for companies in addition to bank lending.
  • Efficiency of reporting to the supervisory authorities, improving access to relevant data collection for both national and EU authorities and removing inefficient reporting duplications.
  • Harmonised Liquidity Management Tools (‘LMT’) in order to better facilitate liquidity risk management by managers of open-ended AIFs, in line with recommendations by the European Systemic Risk Board (‘ESRB’) and ESMA.
  • Improved availability of depositaries in concentrated markets to address the problems in concentrated markets with few depositaries, by enabling NCAs to allow the AIFs to appoint a depositary situated in another Member State. A depositary passport is not proposed.
  • Smooth functioning of the custody chain, with the Central Securities Depositaries appearing in the custody chain regarded as delegates of the depositary, thus enabling the depositaries to obtain the necessary information on portfolio movements and to perform their oversight duties where the fund's assets are kept by a Central Securities Depositary.
  • Ensuring the protection of investor interests in case of delegation by ensuring that fund managers adhere to high standards and a coherent approach applicable across the EU when they make use of delegation. Further, AIFMs must employ or commit at least 2 natural persons on a full-time basis who are resident in the EU. ESMA will receive data on delegation and conduct peer reviews, and report its conclusions to the Commission and the co-legislators.

The Commission has also noted, in respect of the AIFMD review, that when considering these changes, the impact on the UCITS Directive was also considered. As such, the Commission will also update UCITS to reflect changes to AIFMD where necessary, e.g. on LMTs, delegation, and reporting. 

12. ESMA updates guidelines on stress tests for money market funds

On 30 November 2022, ESMA published the final report on the 2022 update of guidelines on money market funds (‘MMF’) stress tests under the MMF Regulation. The update is published in the context of the resurgence of the COVID-19 pandemic, compounded with zero-COVID policies in some regions, uncertainty about the economic consequences of the Russian invasion of Ukraine, and geopolitical tensions.

The report also reflects the very high risks to ESMA’s remit identified in ESMA’s September 2022 ESMA Report on Trends, Risks and Vulnerabilities, including risks to MMFs, which experienced a stress episode on the GBP money market in 2022. The calibration also takes into account the systemic risks identified in the Warning issued by the ESRB on 22 September 2022 on vulnerabilities in the Union’s financial system, and in this regard, ESMA has worked closely with the ESRB and the European Central Bank in making the relevant calibrations.

MMFs and MMF managers are expected to measure the impact of the common reference stress test scenarios specified in the Guidelines and, on the basis of these measurements, are expected to fill in the reporting template referred to in Article 37 of the MMF Regulation and set out in Commission Implementing Regulation (EU) 2018/7083 and send to the results to NCAs with their quarterly reports required by Article 37.

The new parameters set out in the updated guidelines will have to be used for the purpose of the first period to be reported following the start of the application of the updated guidelines (i.e. 2 months after the publication of their translations). Until then, managers should use the parameters set in the 2021 Guidelines and report the results accordingly.

As the scenarios will reflect the assessment of systemic risk by ESMA, the ESRB and the ECB, ESMA has not conducted a public consultation on the update of the Guidelines, however ESMA intends to consult on the revision of section 4.8 of the Guidelines in H1 2023.

Industry and other updates

13. IOSCO reviews implementation of liquidity risk management recommendations

On 16 November 2022, IOSCO published a thematic review assessing the implementation of selected recommendations that were issued in 2018 to strengthen the liquidity risk management (‘LRM’) practices for collective investment schemes (‘CIS’) globally. The review helps to monitor whether IOSCO members have put in place appropriate regulatory requirements for LRM processes to be established by entities responsible for the overall operations of open-ended CISs and to conduct appropriate oversight of LRM processes in both normal and stressed market conditions.

Money market funds and exchange-traded funds were excluded from the scope of the review due to their unique characteristics.

The review found that larger jurisdictions showed a high degree of implementation of regulatory requirements consistent with the recommendations’ objectives. For the CIS design process, the review identified challenges in respect of dealing frequency, dealing arrangements and disclosure practices, and also found that some jurisdictions may need to improve the process of identification of a liquidity shortage before it occurs and to provide more guidance on aligning the investment strategy, liquidity profile and redemption policy.

Other related areas that may warrant further attention include data availability and third-party providers of liquidity metrics. The review found that jurisdictions should further address the availability of liquidity management tools in relation to contingency planning and supplement the current rules and regulations to include requirements that were more specific on the use of such tools.

Finally, the review identified that asset managers have a high degree of implementation of the recommendations at the level of policies and practices. While all large global responsible entities described practices that were consistent with the recommendations, improvement might be needed by smaller and less well-resourced entities with regard to their liquidity disclosure provisions in their CIS design process.

Some weaknesses were also identified in operationalising contingency plans and activation of LRM tools.

14. EFAMA publishes latest statistics on funds

On 23 November 2022, the European Fund and Asset Management Association (‘EFAMA’) published its latest monthly Investment Fund Industry Fact Sheet, providing data for UCITS and AIFs for September 2022.

Net sales of UCITS and AIFs gave rise to net outflows of €103bn (compared to net inflows of €11bn in August 2022), with UCITS having net outflows of €109bn (compared to net inflows of €11bn in August), and net inflows for AIFs of €5bn (compared to €0.2bn in August). Total net assets of UCITS and AIFs decreased by 4.7% during the period to €18.99tn.

Further, on 2 December 2022, EFAMA published its latest quarterly statistical data release describing the trends in the European investment fund industry in Q3 2022.

Net assets of UCITS declined by 2.4% ending the quarter slightly below €19tn, with net outflows of €137bn, which had not been seen since 2008. Most of the main categories of funds recorded net outflows over the quarter; only other AIFs, which are mainly alternative funds such as private equity or infrastructure, continued to post positive net sales. SFDR Article 9 funds attracted net inflows of €14bn over the quarter, with demand for investment funds by European households staying positive in Q2 2022.

Contact us for more

For further information on the issues mentioned above, or any related issues, please contact Jorge Fernandez Revilla, Head of Asset Management

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