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Cayman still the domicile of choice

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The ongoing financial unease has spread over the globe, and the Cayman Islands are not exempt.

The ongoing financial unease has spread over the globe, and the Cayman Islands are not exempt. In the current market conditions, administrators are playing defence rather than resolving the issues of capacity we were facing only a year ago.

Over the past 12 months we have seen a flight to cash as clients prepared to meet liquidity demands. These cash surpluses are now drained as redemptions are realised and the dollar strengthens – thus realising foreign exchange hedging losses – and we are busy finding solutions for significantly increased demand for credit facilities.

The coming year will be a challenge, with an expected contraction of possibly 30 to 50 per cent in the hedge fund industry, partly offset by new funds seeking to exploit opportunities in the credit markets and possible recovery. With most funds heavily under water, some funds are expected to reset their high water marks if they are to be incentivised to continue.

In the meantime, we are seeing a trend toward centralisation of services in the administration industry to make use of less expensive locations to handle some processes such as cash and position reconciliations, or indeed the entire NAV production. This makes the service more scalable and addresses the issue of scarcity of talent in some of the more traditional centres such as Dublin, although this will be less of an issue as we enter a period of negative growth.

Still, Cayman is poised to keep its dominant position as a hedge fund domicile and recent developments in the industry may bolster this. Recently there have been changes to the Mutual Funds Law to increase the minimum investment to USD100,000, in order better to protect unsophisticated investors.

Other changes to the legislation include the removal of the requirement for non-Cayman domiciled funds to be registered simply because the administration is performed in Cayman. This has helped local administrators because, although it is not a large part of the local business, it is important to be able to cater to Delaware entities that form the onshore feeder of master/feeder entities, and to serve large clients with both onshore and offshore products that they want serviced by the same team.

Finally it is now a requirement for registered funds to report non-sensitive data on an annual basis, in addition to the annual audited financial statements. This information is then aggregated and reported by the Cayman Islands Monetary Authority, providing a valuable insight into the industry.

One other non-regulatory development in the Cayman hedge fund industry is the onshoring of parts of the administration function to Canada, the US and other locations, with shareholder and corporate services remaining in Cayman.

The Cayman fund sector will undoubtedly suffer from the general downturn in the hedge fund industry. We are already seeing large redemptions, and widespread fund closures are expected as asset sizes become too low for funds to continue.

However, Cayman is not losing its dominant position as the domicile of choice, despite the increased efforts of other jurisdictions to attract hedge funds. The keys to this are first-mover advantage with a strong infrastructure of industry-leading service providers, coupled with sensible and flexible legislation that does not force funds into operating on the island if that does not fit their business model.

Darren Stainrod is head of alternative fund services at UBS Global Asset Management

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