Small but reputable
Insulated by a border of dense pine forest and frequently under a cloud of mist, the city-state of Luxembourg is deceptively well connected. The seemingly sleepy Grand Duchy houses 80 per cent of European cross-border funds and with E950bn invested in funds based there, it is the number one location in Europe for fund domiciliation, administration and cross-border distribution. And the local financial community is determined to keep it that way. It has managed to do so until now thanks to its close relationship with the Luxembourg government, according to Thomas Seale, chief executive of Luxembourg-based back office specialists, European Fund Administration (EFA). Mr Seale says that Luxembourg’s small size and the relative importance of the financial industry to the country has allowed the Grand Duchy to move fast in the setting up and administering of investment funds sold across Europe. Preparing for UCITS III Luxembourg pioneered the implementation of the first European Union directives on collective investment vehicles (Ucits) in 1988. These provide certain funds with a European passport that allows them to be sold across borders. Luxembourg was also the first in Europe to adopt Ucits II in 2001, which expanded the scope of types of investment fund entitled to the passport. Now, Luxembourg is poised to implement Ucits III, although the directive will not become mandatory until February 2004. This latest set of rules aims to further facilitate pan-European fund distribution and coordinates laws, regulations and administrative provisions relating to Ucits funds. Meanwhile, Luxembourg is aiming to be the first to adopt another new set of guidelines – the European international financial reporting standards (IFRS). However, John Li, managing partner at KPMG Luxembourg, says that there is still work to be done on IFRS proposals on the auditing of mutual funds before implementation. “A very important issue is the treatment of investors’ assets in open-ended funds, which under strict IFRS application would be classified as debt instead of equity. This would mean that the balance sheet of a fund would be zero. I do not think this will go down well with the industry, so some adaptation is required.” Mr Seale, who, besides his role at EFA, is president of the marketing committee of Luxembourg’s investment fund industry association (Alfi), says that the jurisdiction has more to offer than the swift implementation of laws. Luxembourg’s internationality gives it a distinct advantage. The multi-lingual workforce is ideal for distributing and administering funds sold in multiple European countries to non-institutional investors. Deutsche Bank is among the European powerhouses which use a base in Luxembourg to distribute products throughout Europe. According to Mr Seale, Luxembourg enjoys a neutral image, which makes it a gateway to the wider world. “Would German based funds be as credible in Japan?” he asks. Stickler for rules Mr Seale adds that alongside Luxembourg’s well-established position as an investment fund centre is its reputation for rigorous regulation. This has led Luxembourg to suffer from a reputation problem in the hedge fund world. Nathalie Dogniez, partner at KPMG Luxembourg, says: “There has been a common misperception that Luxembourg is an unfriendly environment for hedge funds, but in fact some have always been here.” The problem stemmed from the fact that Luxembourg has a strict attitude to hedge funds, she says. “The authorities attach a lot of importance to the quality of fund promoters. They have to be reputable institutions with appropriate experience and sound processes, ensuring investor protection.” Two-man operations, she says, are not welcome. Another factor putting hedge funds off Luxembourg was the lack of written rules applying to this type of investment. In late 2002, however, a clarificatory circular was issued. Ms Dogniez is hopeful that this will put things right.
