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UCITS V Level 2 and the Securities Financing Transactions Regulation: the FCA Consultation

UCITS V Level 2 and the Securities Financing Transactions Regulation: the FCA Consultation
  • United Kingdom
  • Financial services - Asset managers and funds


On 19 May 2016, the FCA published CP16/14 setting out its proposals to amend parts of its Handbook of Rules and Guidance.

CP16/4 is a response to two European Commission Regulations:

  • The UCITS V Level 2 Regulation (UCITS Regulation) on 24 March 2016. The UCITS Regulation will apply to UCITS firms from 13 October 2016. It introduces new requirements for depositaries and trustees of UCITS (UCITS depositaries). Its effect is the same as the draft which the Commission published in December 2015.
  • The Regulation on Reporting and Transparency of Securities Financing Transactions (SFTR). The SFTR came into force on 12 January 2016. It introduces a number of measures including new requirements on: transactions, such as Repos; total return swaps; and the re-use of financial instruments received under a collateral arrangement. See our previous briefing from 18 January 2016: SFT Regulation: its immediate impact for fund managers.

The main amendments are to the Client Assets Sourcebook (CASS), the Collective Investment Schemes Sourcebook (COLL), the Investment Funds sourcebook (FUND) and the Senior Management Arrangements Systems and Controls Sourcebook (SYSC). 

Proposed Changes to CASS

The FCA is proposing amendments to the rules for UCITS Depositaries in CASS 6.1.16ID. As proposed, the amendments will have an impact on:

  • adequate organisational arrangements - depositaries must have adequate organisation arrangements to minimise the risk of loss of assets as a result of fraud, poor administration, inadequate registering or negligence;
  • records and accounts -  firms must maintain records and segregated accounts in a way that ensures accuracy, and in particular record the correspondence with UCITS assets; and
  • reconciliation of records - the UCITS Regulation imposes strict requirements on depositaries when conducting reconciliations of records.

The FCA proposes to disapply certain CASS rules and guidance that conflict with, or duplicate the UCITS Regulation. The UCITS Regulation is broadly consistent with the AIFMD Level 2 Regulation. The approach taken in CP 16/14 is similar, therefore, to the one the FCA took to implement the AIFMD.

Although not required to help give effect to the UCITS V Regulation, the FCA has not taken the opportunity to clarify what it means by a “depositary when acting as such” in the rule in CASS 1.4.6.

Where the existing CASS rules are either outside the scope of, or are consistent with, the UCITS V Regulation and UCITS V Directive, the FCA proposes these rules should continue to apply to UCITS depositaries. For example, the following Handbook chapters will broadly continue to apply:

  • CASS 1A and SUP 10.7 (CASS firm classification and operational oversight);
  • CASS 3 (collateral);
  • CASS 8 (mandates);
  • CASS 9 (prime brokerage);
  • CASS 10 (CASS resolution pack);
  • SUP 16.14 (client money and asset return (CMAR)); and
  • SUP 3.10 and SUP 3.11 (annual CASS audit).

In CP 16/14, the FCA has clarified its position on record keeping: when a UCITS depositary delegates its functions in relation to the custody of UCITS assets to a third party delegate, it considers that the depositary can meet its record keeping obligations under CASS 6.6.2R and CASS 6.6.4R if the delegate keeps such records and accounts on their behalf. The UCITS depositary need not maintain a duplicate set of custody records of the relevant assets in order to comply with CASS 6. The same approach will be applied for AIF depositaries that delegate their functions in relation to the custody of the AIF assets to a third party delegate.

The depositary, however, is still responsible for complying with CASS even when it has delegated custody functions. If a delegate keeps these records and accounts on the depositary’s behalf, the depositary must ensure it has the appropriate rights to access and verify these records without delay. The depositary is also responsible for ensuring that the delegate maintains those records in a way that ensures their accuracy, and ensures appropriate oversight over the delegate’s actions.

Depositary Independence

In CP 16/14, the FCA gives guidance on meeting the independence requirements for management companies and depositaries introduced by the UCITS V Level 2 Regulation.  It states that existing requirements in UK law set the standard for independence between UCITS depositaries and management companies:

  • The Financial Services and Markets Act 2000 (FSMA) and the UK Open-Ended Investment Companies (OEIC) Regulations require the two entities to be independent of each other, and
  • Guidance in COLL 6.9.2G to COLL 6.9.5G gives the FCA’s view of the meaning of independence and identifies certain possible links which it has  regard to in determining whether independence exists.

These requirements have led to a situation where UK depositaries and management companies are structurally independent.  Thus for many years, these requirements have delivered a high level of investor protection.  In light of the above, and taking account of the fact that the Government’s Statutory Instrument implementing UCITS V has not amended the independence provisions in FSMA and the OEIC Regulations, the FCA proposes to retain the existing guidance in COLL 6.9 which relates to those provisions. This will result in stricter independence standards than those required under the UCITS Directive. The FCA considers these to be justified by the increased investor protection benefits.

Therefore, firms should read the new UCITS V Level 2 Regulation requirements in conjunction with the FCA’s existing guidance on independence in COLL 6.9.

Remuneration Committee

The FCA is consulting on a minor amendment to SYSC 19E.2.9R(1), which sets out the circumstances where a UCITS management company must appoint a remuneration committee. This will better align the wording of the SYSC rule with Article 14b(4) of the UCITS Directive, and it is now clear that a management company will be required to establish a remuneration committee only if it is significant in terms of all three relevant criteria:

  • its own size or size of the UCITS it manages;
  • the complexity of its internal organisation; and
  • the nature, scope and complexity of its activities.

Proposed Handbook changes resulting from the SFTR

Of relevance to this consultation are the SFTR requirements for managers of UCITS and AIFs to disclose their use of SFTs and total return swaps in the funds’ pre-contractual documents and periodic reports to investors. These requirements, in Article 13 and 14 of the SFTR, supplement existing disclosure requirements in COLL and FUND. In this CP the FCA proposes to copy out the relevant SFTR provisions into COLL and FUND to help firms comply with the new disclosure requirements. The SFTR contains other provisions which are directly applicable for managers of UCITS and AIFs but the FCA does not consider these in this CP.

The requirement to disclose SFT information in the fund’s periodic reports to investors will apply from 13 January 2017. The requirement to disclose SFT information in the funds’ pre-contractual documents will apply from 13 July 2017 to managers of funds constituted before 12 January 2016, while managers of new funds constituted since 12 January 2016 should comply with the requirements from the point when the fund has been constituted. The FCA confirms its view that new funds include new sub-funds so a new sub-fund of an existing umbrella will not benefit from the transitional measure in the SFTR.

The FCA’s proposed guidance seeks to clarify that since managers of NURS and QIS must issue a prospectus under COLL 4.2 or COLL 8.3, these managers should disclose the SFTR information in the prospectus instead of disclosing it in other pre-contractual documents. It believes that investors and managers will both benefit from having the SFTR disclosure alongside the other relevant information about the fund and the fund manager in the prospectus.

The FCA also clarifies that firms which are not using, or which are not authorised to use, SFTs or total return swaps are not required to make any disclosures under Articles 13 and 14 of the SFTR.

Next Steps

Comments on the proposals are due by 19 July 2016. This period will allow the FCA time to finalise its rules and guidance before the UCITS Regulation takes effect on 13 October 2016. The FCA intends to publish a policy statement in the third quarter of 2016. It is also worth noting that this summer the FCA intends to publish a policy statement to Part III of CP 15/27 which covers “miscellaneous changes” to fund regulation, including changes that will have an impact on UCITS.