Alternative Investment Management Association Representing the global hedge fund industry
Credit Suisse Securities (Europe) Limited and Freshfields Bruckhaus Deringer, respectively
In September 2005, the first international prime broker was appointed in respect of an onshore collective investment scheme in France – an OPCVM (Organisme de Placement Collectif des Valeurs Mobilières ), following implementation of Decree No. 2005-875 of 25 July 2005.
The recent development of the French market for onshore hedge funds is supported by the adoption of a new regulatory and legal framework. The evolution of this local law regime and its pragmatic implementation by the Autorité des Marchés Financiers (AMF) is also consistent with the development of international prime brokerage activities in France. This article outlines the legal and regulatory path that led to launch of the first onshore ‘hedge fund’ entity in France, from a prime broker’s perspective.
The investment vehicle
The amended Decree No. 89-623 (6 September 1989) codified in the French Monetary and Financial Code and supplementary legislation implemented a set of new investment and leverage restrictions for collective investment schemes in France.
A collective investment scheme established as a leveraged simplified fund – an “OPCVM ARIA EL” (OPCVM à Regles d’Investissement Allégées à Effet de Levier) organised under the French Monetary and Financial Code, is currently the collective investment scheme most commonly used as a ‘hedge fund’ type vehicle in France. Establishment of an OPCVM ARIA EL is subject to the prior authorisation of the AMF. The management company of an OPCVM ARIA EL must also obtain the prior approval of the AMF for its specific business programme.
The OPCVM ARIA EL may derogate, within certain limits, from the general provisions relating to general investment ratios. The marketing rules applicable to the OPCVM ARIA EL permit multiple distribution channels.
International prime brokerage services for an OPCVM
The role of the prime broker has evolved to become an essential support provider for hedge funds domiciled in an array of jurisdictions. Indications in early 2004 suggested that the AMF seemed supportive of investigating opportunities for France to become the next competitive European location for hedge fund investment.
The consultation process initiated by the AMF Consultation Paper in May 2004 (Fiche 2: Principes relatifs à l’activité de prime brokerage et à l’organisation des relations, obligations et responsabilitees entres les différents acteurs), served as a critical platform for industry participants collectively to identify key criteria for development of an onshore environment. In common with other European regulators, the AMF recognised the increased growth of the hedge fund product as an independent asset class. The challenge was to facilitate an onshore investment regime within the confines of a codified legal system and maintenance of essential investor protection standards.
The definition of the role and the responsibilities of the local depositary therefore became a crucial factor in the early stages of the evolution of the onshore structure in France.
The AMF Consultation Paper had identified three potential models for the depositary/prime brokerage relationship and these structures continue to be the focus of intense debate between the French custodian market and international prime brokers.
The prime brokerage concept was initially unfamiliar to the local market. Coupled with the regulatory duties incumbent upon the local depositary for
(i) monitoring and supervising the activities of the OPCVM; and
(ii) control of the custody of the assets of the OPCVM,
the months following release of the AMF Consultation Paper involved detailed dialogue between prime brokers, the industry body of custodians in France (Panel des Depositaires) and the AMF.
Another focus of the AMF during this period was to achieve a comprehensive insight of the full scope of prime brokerage services in order to define eligibility criteria and documentary conditions for institutions seeking to act as prime broker to an OPCVM. The underlying objective remained liberalisation of the legal and regulatory regime within carefully defined parameters to ensure control of potential exposure to investors and preservation of the integrity of an onshore market.
Legal and regulatory considerations
France has recently concluded final steps in the adoption of a liberalised legal and regulatory regime to facilitate onshore hedge fund investment.
An OPCVM, organised as an FCP, is a pool of collective investment assets without an independent legal personality. The FCP is represented by the asset management company (société de gestion de portefeuille) organised under the French Monetary and Financial Code appointed as manager of the fund. The OPCVM and the asset management company are each required to be authorised by the AMF. The OPCVM must appoint as a local depositary, a credit institution authorised to act as a custodian by the CECEI (Comité des établissements de crédit et des enterprises d’investissement). A prime broker appointed by an OPCVM must be authorised to provide investment services in France (pursuant to the Investment Services Directive 1993 or otherwise).
The AMF approval process for authorisation of an asset management company and approval of an OPCVM has proved efficient and transparent.
Documentation and information required by the AMF at the various phases of the application process include the following:
(i) In respect of the management company: -
- statuts (by-laws)
- extrait K-bis (registration certificate) from the Registre du Commerce et des sociétés (Trade and Companies Register)
- programme d’áctivité spécifique de gestion de fonds à règles d’ investissement alleges à effet de levie) (specified activities programme for the management of collective investment schemes with simplified rules with leverage effect).
(ii) In respect of the depositary: -
- extrait K-bis
- the CECEI approval letter confirming the banking licence of the depositary
- the form of custody agreement to be entered in to between the management company representing the OPCVM and the depositary
- details of organisation and infra-structure and demonstration of controls for due performance of its regulatory duties.
(iii) In respect of the prime broker:-
- prime broker compliance letter
- prime brokerage documentation
Prime brokerage documentation requirements
The key documents that the AMF will require from a prime broker in the context of its consideration for approval of an OPCVM are the Prime Broker Compliance Letter and the prime brokerage agreement.
The following requirements are (amongst others) some critical requirements that the AMF regards as mandatory elements of a prime brokerage relationship with an OPCVM:
(i) the prime broker entity must maintain at least Eur200,000,000 beyond the minimum own funds threshold (European Directive 1993/6/CE);
(ii) the prime broker or its parent company/major shareholder must maintain a minimum credit rating greater than or equal to AI/PI (Moody’s) or AA (Standard Poor’s);
(iii) cash balances must be subject to the protections conferred by the Client Money Rules (Financial Services Authority);
(iv) restrictions apply in respect of the types/volume of assets of the OPCVM that are permitted to be rehypothecated by the prime broker;
(v) collateral arrangements are subject to the requirements of Article R214.12 of the Code Monetaire et Financiers;
(vi) rights of the OPCVM to terminate the prime brokerage relationship and effect rights of set off in an insolvency of the prime broker;
(vii) notice period for (non default) termination of the prime brokerage relationship must be at least sixty days;
(viii) additional termination rights for the depositary;
(ix) the prime broker must be authorised to disclose information relating to the OPCVM to the AMF;
(x) descriptions of the process for collateral valuation and margin calls by the prime broker.
The onshore hedge fund industry in France 2005
The development of the onshore legal and regulatory environment in France represents a significant step forward in the French alternative investment industry. The continuing dialogue between market participants and the AMF further to clarify application of various aspects of applicable statutes and regulations remains of benefit for all of us – either currently active in or interested in participation in the local market.
As at 1 March 2006, the AMF has authorised nine onshore investment funds established as ARIA EL FCPs?. Four of the funds authorised to date have elected to appoint the same international prime broker.
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