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ESMA Steven Maijoor

ESMA outlines future regulatory framework for ETFs and other UCITS issues


ESMA has published a consultation paper (ESMA/2012/44) setting out future guidelines on UCITS Exchange-Traded Funds (UCITS ETFs) and other UCITS-related issues. The proposals cover both synthetic and physical UCITS ETFs and detail the obligations to come for UCITS ETFs, index-tracking UCITS, efficient portfolio management techniques, total return swaps and strategy indices for UCITS.

ESMA’s proposals therefore go wider than ETFs and cover such areas as the use of total return swaps by any UCITS, for which ESMA envisages additional obligations with respect to the collateral to be provided, or UCITS investing in strategy indices, where the requirements on eligibility of such indices have been tightened. The proposals also include placing an obligation on UCITS ETFs to use an identifier and facili-tating the ability of investors to redeem their shares, whether in the secondary market or directly with the ETF provider.

Steven Maijoor (pictured), ESMA Chair, says: “In outlining the draft future rules for investment funds today, ESMA is proposing to reinforce the legal framework applicable to ETFs and other types of UCITS. The aim of these guidelines is to enhance investor protection and limit the risk of certain practices by strengthening, in particular, the standards appli-able to collateral received in the context of activities such as securities lending. Moreover, the proposed guidelines improve the quality of the information provided to investors to allow them to make informed investment decisions. Furthermore, the draft guidelines help address concerns arising from the increase in the number of complex products sold to retail investors and will contribute to the convergence of the regulatory framework for these products.”

ESMA took account of the 65 contributions to its July 2011 discussion paper when developing these draft guidelines. Respondents to the discussion paper generally recognised that the issues identified by ESMA were valid but that the guidelines should not only target UCITS ETFs but all UCITS that engage in the relevant activity (e.g. securities lending) or pursue the same type of investment policy (e.g. tracking an index). In the light of this feedback, ESMA has broadened the scope of the guidelines.

For UCITS ETFs, ESMA proposes the obligatory use of an identifier for all funds that fall within the scope of the harmonised definition. In addition, investors should be provided with more information when the

UCITS ETFs does not track an index and is actively managed. Finally, ESMA is seeking stakeholders’ feedback on the appropriate regime for secondary market investors (see section 4 of the consultation paper), and in particular the possibilities for them to dispose of their shares.

Concerning index-tracking UCITS, ESMA proposes additional disclosure requirements on such issues as the index to be tracked; the method of replication and the tracking error (see section 3 of the consultation paper).

With regard to securities lending, ESMA proposes that collateral posted to mitigate counterparty risk should comply with the criteria set out in the CESR guidelines on Risk Measurement and Calculation of Global Exposure and Counterparty Risk for UCITS of July 2010 (CESR/10-788), while recommending that the diversification and haircut criteria be strengthened. These requirements would also apply to repo and reverse repo activities. Therefore, according to the draft guidelines, collateral posted in the context of efficient portfolio management techniques should respect the UCITS diversification rules and UCITS should have a documented and appropriate haircut policy for each category of assets received as collateral.

Following the feedback received from the first public consultation, ESMA decided to address certain of the proposed guidelines to all UCITS investing in total return swaps and strategy indices respectively. For total return swaps, ESMA proposes to apply the same obligations on collateral management as for securities lending. Finally, regarding strategy indices, ESMA confirms most of the policy orientations presented in the discussion paper on eligibility of indices, disclosure to investors and the due diligence to be carried out by the UCITS.

In the discussion paper published in July 2011 (ESMA/2011/220), ESMA expressed its concerns about the increasing number of complex products sold to retail investors and the lack of regulatory convergence in relation to the manufacturing and management of such products. ESMA reiterates the need to tackle these issues and will continue to contribute actively to the regulatory response to these problems.

ESMA will take into account responses to this consultation in finalising the guidelines. Stakeholders are encouraged to comment on the draft guidelines by 30 March 2012. ESMA expects the final guidelines to be ready for adoption by mid-2012.

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