Latest Regulatory Update
1. UK updates
a) Overseas Fund Regime now “effective”
Last year, the updated Financial Services Act (FSA 2021) put into place a revised UK framework for specific EU legislation, onboarded before departure from the European Economic Area (EEA). PRIIPS and UCITS were among those regimes lined-up for divergence at some stage.
On 23 February 2022, the UK government enacted FSA provisions covering the Overseas Funds Regime (OFR). The UK-OFR is a new structure designed for EEA-UCITS to be marketed locally in the longer-term.
However, while the OFR is now legally established, it is yet to be activated. The UK Treasury are now assessing if non-UK UCITS can be declared “equivalent”, ahead of their inclusion in the OFR.
Without any GovUK equivalence decision timeline, it is still unknown when the OFR will be triggered.
Until then, pre-authorised EEA-UCITS firms can continue to market their funds in the UK using the available transitional provisions. However, they must progress with their FCA application per allotted “landing slot”, to secure a full-time UK-OFR inclusion.
Meanwhile, one legal firm says the Financial Conduct Authority (FCA) may apply OFR disclosure conditions for EEA entities; e.g. the yearly Assessment of Value (AoV) report.
b) UK legal “limbo” continues
There are currently three UK transitional legal provisions currently in place:
- The FCA’s Temporary Transitional Powers (TTP) or “standstill direction” ends on 31 March 2022.
- The Temporary Permissions Regime (TPR) allows EEA firms to continue regulated UK operations until 31 December 2023 (as per permitted scope of their previous FCA passport).
- the Temporary Marketing Permissions regime (TMPR), available until 31 December 2025, enabling pre-authorised EEA firms to continue marketing their funds (ahead of their long-term FCA authorisation).
Some industry specialists have recently cited continuing post-Brexit regulatory uncertainty in the UK; this includes a reported “gap in contingency planning” and a “rift between three key dates”.
The Investment Association (IA) state that EEA firms registered entering the TMPR back in 2020 may not obtain UK-OFR equivalence for their UCITS funds “until next year… or 2024”.
One lawyer points to “a backlog which makes life a bit of a mess”; they refer also to a “standstill” in resolving key obligations and rules, including “those which treat EEA-UCITS as equivalent to UK-UCITS” (despite their legal status as non-UK AIFS since Jan 2021). Another legal firm confirm their Irish clients are “not keen” to take on the “significant body of work involved” to register new UCITS exchange-traded funds for sale in the UK. New EEA entrants to the UK market will also face “a 4-6 month delay” and “very high” legal costs to launch a new fund.
NB: another reminder that the end of the TTP will fully activate the FCA national private placement regime (NPPR) from 1 April 2022.
c) LTAFs: early days for new structure
The new long-term asset fund (LTAF) structure was made available last November; this introduced a new type of AIF with 90-day redemption notice period, investing in illiquid assets such as venture capital, private equity, real estate and infrastructure. The IA had concluded that one third of wealth managers (total assets GBP 1 trillion) “likely” to invest in LTAF-like products; defined contribution (DC) pension schemes were set as the principal target market.
Until now, there have been no reported LTAF launches in the UK (the FCA authorisation process was estimated to last 6 months). Following the recent review of the UK funds regime, there will now be two LTAF consultations; changes to current performance fee cap rules are anticipated later this year. In the meantime, “real interest from clients in launching new LTAFs” has been observed, with one legal firm “actively working with a number of managers” accordingly.
NB: in addition to the LTAF quarterly report, fully authorised UK-AIF firms have to continue their supply of Annex IV supervisory reporting to the FCA, alongside UK-PRIIPS KIDs (wherever the LTAF is marketed to retail investors). The FCA have also encouraged the Cost Transparency Initiative (CTI) “to ensure that its templates can be used for LTAFs” in due course.
2. EU updates
a) Kneip launch latest EMT
This week, Kneip announced their delivery of the latest MiFID template (EMT v4.0) to the marketplace, within days of the FinDatEx consultation. This completes a unique Kneip hat-trick, following our recent launches of both the landmark ESG (EET v1.0) and PRIIPS (EPT v2.0) templates, far ahead of our competitors.
b) PRIIPS: CEPT consultation opens while quick-fix wait continues
FinDatEx have also launched another consultation covering the European Comfort PRIIPs Template (CEPT 2.0) recently updated by their PRIIPs technical working group.
The CEPT template is based on a bilateral (“comfort”) agreements between providers of underlying options for PRIIPs and insurers; the latest PRIIPS KID RTS means changes are now necessary.
The CEPT V2.0 consultation is now open until 31 March 2022.
NB: There is no sign (yet) of the EC’s latest “quick-fix” to align the revised PRIIPS KID RTS application date with the end of the UCITS transition period (31 December 2022).
c) ELTIF II set for year-end
The European Long-Term Investment Fund (ELTIF) is a direct competitor of the new UK-LTAF; it was established back in 2015, with a potential market of EUR 1-2 trillion previously estimated by the EC.
The European Parliament and EU Council are currently reviewing the EC’s draft updated ELTIF regime; the latest forecast for adoption is end-H1 2022, with application set to follow around end-2022.
The European Fund and Asset Management association (EFAMA – including Kneip as a member) have now outlined their recommendations for this re-booted regime “to reach its full potential as a competitive long-term investment option”.
3. Recent ESG developments (EU, UK)
a) ESMA publishes ESG implementation timetable
The European Securities and Markets Authority (ESMA) published a new Sustainable Finance legislation timetable, depicting latest key milestones until 2026. This should act as a useful 2-page high-level summary of the complicated, challenging ESG disclosure regime now facing the EU funds industry.
b) PSF: publishes final report on EU social taxonomy
The Platform on Sustainable Finance (PSF) is the European Commission’s permanent expert group assisting them to develop the EU taxonomy. You may recall their recent opinion regarding the EC’s placement of gas and nuclear industries within previously defined environmental objectives.
Last week, the PSF published a report on how EC could expand their taxonomy to include social objectives:
- Decent work: e.g. living wages, social protection and workplace equality
- Adequate living standards and consumer wellbeing: e.g. healthy and safe products, access to good-quality housing, education and healthcare
- Inclusive and sustainable communities: e.g. improved basic infrastructure (transport, telecommunications), support for children and the disabled
Similar to the current taxonomy model, an EU economic activity would be classed as “socially sustainable” provided it makes a substantial contribution to at least one of the social objectives and does no significant harm (DNSH) to those remaining.
The PSF also set out their legislative context, including how a social taxonomy could be legally applied to the Sustainable Finance Disclosure and Taxonomy regulations (SFDR / TR). They highlight an “overlap” between SFDR principal adverse impacts (PAIs) and additional social taxonomy information required from financial market participants. They also sketch out “first ideas” about social taxonomy disclosure for equity funds and certain fixed income social products.
Finally, the PSF also propose extra governance objectives as “minimum safeguards” to the environmental and social taxonomies; sustainability-linked executive pay is proposed as a “very effective way to steer a company towards achieving the sustainability targets it has set for itself”.
The EC will now decide on the next steps for a social taxonomy; meanwhile, industry attention will likely remain on meeting those daunting SFDR / TR level 2 disclosures before January 2023.
c) EC propose Corporate Sustainability Due Diligence Directive
The EC recently published their proposal for a Directive on Corporate Sustainability Due Diligence (the “DD proposal”) lined up for larger EU and non-EU companies.
If adopted, this would apply extensive due diligence rules covering “adverse human rights and environmental impacts of their own operations, those of their subsidiaries and their upstream and downstream value chain”.
It would also oblige each firm to publish their corporate climate change action plan to ensure the business model and strategies are compatible with the transition to a sustainable economy (including limitation of global warming to 1.5°C as per 2015 Paris Agreement).
NB: The EC confirms this law would not apply to small / medium sized enterprises (i.e. 99% of those in the EU).
While the draft Directive is likely to be “heavily” modified during a long EU due process, it is now recognised as a potential “game-changer” for the entire EU finance industry.
d) UK: FCA publishes ESG Sourcebook
Across the channel, the FCA has now introduced a new Environmental, Social and Governance (ESG) sourcebook section into their rules Handbook. This sets out new rules in line with their December 2021 policy statement covering climate-related disclosures by asset managers, life insurers and pension providers. These now apply to UK larger firms, with initial entity and product reporting required before 30 June 2023.
The FCA has also started to produce Technical Notes to assist firms preparing for mandatory reporting based on the Task Force on Climate-Related Financial Disclosures (TCFD) standards. The overall UK objective remains to make TCFD reporting mandatory for the entire financial sector before 2025.