Currently, asset managers generally benefit from a number of exemptions and national discretions in the Capital Requirements Directive and Regulation (CRD IV and CRR). That is set to change. The main elements of the newly-adopted Investment Firm Directive and Regulation (IFD and IFR) have broadly been welcomed by the industry. However, the texts include provisions on a number of matters not related to capital, underlining the need always to look beyond a title.
Asset managers will need to consider the impact of the new rules on their capital requirement and reporting obligations, but they will also need to pay close attention to a number of other measures, which could impact their business models.
Capital – the core requirements
IFD/IFR apply to all investment firms depending upon their classification and aim to differentiate the prudential regime according to the size, nature and complexity of the firms.
Systemic investment firms or those with a similar risk profile to credit institutions (“class 1”) will continue to follow the same regime as banks (i.e. subject to MiFID II/MiFIR and CRD IV/CRR). Non-systemic investment firms (including asset managers) will be split into two groups and will follow the new prudential regime for investment firms:
IFD sets out requirements for investment firms in relation to initial capital and for the national regulators (NCAs), including supervisory powers and tools and publication requirements. IFR sets out the requirements on own funds, level of minimum capital, concentration risk, liquidity and reporting and public disclosure.
Initial capital requirements continue to serve as the absolute minimum and are referred to as the Permanent Minimum Capital requirement (PMC) under the revised rules, which increases according to the firm’s activities. In addition to PMC, there is a greater emphasis on the fixed overhead requirement (FOR). To calculate the new capital requirement under the revised rules, some firms are required to apply a new risk-responsive computation, known as K-factor methodology.
Class 2 firms’ own fund requirements will be the highest of PMC, FOR and the k-factor capital requirement, while Class 3 firms’ own fund requirements will simply be the highest of PMC and FOR.
Issues in the finer detail
A key piece of good news is that, as Class 2 and 3 firms will no longer be CRD IV/CRR firms, the “COREP” reporting requirements will no longer be applicable to asset managers. The new IFR reporting obligations will be simpler. There are, though, a number of areas of concern, some of which depend on the detailed, and as yet unknown, Level 2 rules.
For example, there are concerns that the IFR proposals could end up being applied to firms’ non-EU operations, potentially resulting in a much higher capital requirement and creating competitive challenges.
During discussions in the European Parliament and Council, a proposal to cap bonuses for bank-owned asset managers was rejected. Instead, the new rules explicitly permit NCAs to impose a cap on individual firms if they are not happy with the firms’ remuneration policy. The rules also require shares and derivative options to represent at least 40 percent of variable bonuses, and that at least half of bonuses should be deferred over a five-year period.
Large asset managers will have to disclose their corporate investment policies. Firms will have to disclose the companies in which they hold more than 5 percent of shares and how they vote at general meetings. The European Commission has been asked to assess whether the new rules should also apply to UCITS and AIFs.
Meanwhile, the revised Shareholder Rights Directive (SRD II), which applies from 10 June 2019, aims to promote effective stewardship and long-term decision-making among asset managers by increasing the transparency of engagement policies. Reports must include significant shareholder votes and the use of proxy advisers, and must be displayed for free on firms’ websites.
There was an attempt to replace the current MiFID/MiFIR provisions by a requirement for third-country firms to register within the EU and abide by EU rules. This amendment was not adopted, but the third-country provisions were strengthened. ESMA’s position is that the rules should be the same as in AIFMD. That’s to say, more descriptive and prescriptive.
ESMA has also extended its position on UCITS pay disclosure to encompass non-EU firms. Since 2016, UCITS fund managers have had to disclose the aggregate remuneration of key staff in their annual reports. In June 2018, ESMA said the disclosures should include the remuneration of staff in firms to which the manager has delegated investment management, wherever those firms are based. The industry expressed concerns about the extra-territorial impact of this approach.
Questions for CEOs to ask: