Luxembourg adds fintech string to its funds bow

PWM  Luxembourg has always been a very attractive destination for both US and European managers to base themselves, to expand their footprint, and their international audience. Do you think those attractions have become even more pronounced after the Brexit referendum in the UK?

Denise Voss Brexit is a challenge for certain asset managers. Some had already set up a Ucits fund in Luxembourg, or Ireland, to distribute worldwide, but some asset managers need to find a solution to Brexit, to be able to access European investors.  We have seen a few British asset managers come here to meet with the regulator, the CSSF, to discuss options. M&G has announced its intention to set up a Ucits fund to maintain access to European and then worldwide investors. Other US and Japanese asset managers have used London to access Europe, and are considering their options in the face of a hard Brexit. 

A key reason for fund managers to come to Luxembourg is the Ucits brand and its recognition by regulators around the world. The Alternative Fund Manager Directive (AIFMD), which has been fully implemented since 2014, is also interesting. The expertise that has been built up over the years, the so called ecosystem, is another big argument to come to Luxembourg. The government support, and the stability of Luxembourg as a country, are certainly important factors.

PWM Do you feel Luxembourg is innovative enough, particularly in the technology areas such as fintech or regtech?

Denise Voss Certainly the Luxembourg government is quite keen to develop Luxembourg as a fintech or digital technology hub. Alfi has set up a digital fintech forum, with working groups looking at digital distribution. This clearly recognises the fact that the younger generation, and older generation as well, is interested in directly interacting with asset management houses, in terms of buying and selling their fund investments.  

We are looking at the potential for blockchain.  I think we are getting close to finding some practical solutions to blockchain, in particular in the area of know-your-customer, anti-money laundering, identification, which is a very cumbersome, expensive, manual process, that every asset manager, or fund administrator has to undergo.  

Also, the Luxembourg House of Financial Technology, the LHoFT, has just been launched.

PWM So if all of these new initiatives come off, and you attract significant new business to Luxembourg, do you have enough staff to make sure that the initiatives will actually work?

Denise Voss Adding staff and premises in a growing business like the fund industry has always been a challenge.  

Auditing and law firms recruit starting staff at universities in France, Belgium, Germany and beyond. That has been successful. But we also need to make sure we continue to develop the skills we need. Risk management, for instance, is an area in which we have developed an expertise over the years, particularly because of Ucits III.  We are also having discussions with the University of Luxembourg, to see what kind of programmes can be put in place to help develop those skills here, as well as looking for those skills outside. We also have a house of training, in charge of developing skills that we need today, with a view to the future. 

In the past, it was a challenge to get people to come to Luxembourg, given it was small, and relatively unknown, and smaller in terms of the cultural activities available.  But over the last 30 years, it has developed a lot. Once somebody gets here, they want to stay.  

Our ecosystem in Luxembourg has one enormous advantage, because we have investors in 70 countries, resident in 70 countries, which invest in Luxembourg funds. Asset managers from nearly 70 countries have set up funds in Luxembourg. That means we have needs and business models which are quite different. The ecosystem here, including the regulator, understands that you can do business in a different way, and come to the same conclusion, comply with the same laws and rules. 

With Brexit, I think we will see different jurisdictions take different types and pieces and amounts of business, but we will get our share.

PWM Why do fund groups need a presence in Luxembourg, if most of the money is managed in London or New York?

Revel Wood That stems from the concept of accessing the European market through a cross-border passport, which Ucits allows. Many UK or US managers have a long track record of managing domestic funds but want to distribute funds more globally. The Ucits brand, over time, has become better and better established and has then been passported to Asia, to South America and around the globe. 

Particularly in jurisdictions like Luxemburg or Ireland, fund centres have developed an ecosystem, an infrastructure. Many of the world’s largest managers have established there, and with them came very skilled and deep expertise in law firms and in the big four accounting firms, which often have their large fund leadership centres in jurisdictions like Luxembourg.

PWM  Independent fund management groups such as yourselves are bursting out of the back office, so to speak. It is not just custody and administration. You are involved in some of the more expert tasks now, such as risk management and due diligence.

Revel Wood The market has definitely evolved from the early days. We have a long heritage in fund governance dating back to our UK heritage under RBS, which dates back more than 80 years.

More and more, managers are not looking just for the core, which is a given now. We had the unique benefit of having been owned by a large investment bank that had invested significantly in risk systems, processes, investment restriction or fund compliance systems. And we have built incredible connectivity to the large global custodians and central administrators. That ability to do risk management, oversight, compliance and control is core. But we ensure we add more value add in terms of knowledge, structuring, global connectivity with the market and distributors around the globe, as a one-stop shop solution for things like KIID production and regulatory reporting. Clients expect this service.

PWM You have bought a firm in the UK and you have opened up in Dublin. How will the three centres now work together and how will that increase and broaden the palette of services you provide?

Revel Wood We have 70 people today in Luxembourg. This is our key hub and deep expertise. But more and more we service a global client base. Increasingly, global managers do not have a fund range only in one jurisdiction. They typically have a fund range in Ireland, possibly for different distribution reasons or different products.

Longer-term, having a presence in the UK and London enables us to remove the uncertainty Brexit created. Whether it is European managers wanting to distribute into London or London managers wanting to leverage those jurisdictions in Europe, we will be able to cater for all managers, providing a solution right now and for years to come, which is insulated from geopolitical uncertainty. 

PWM Will Luxembourg have to be much more flexible in the type of business that it is looking for?

Claude Niedner  I think Ucits funds are very, very successful in Luxembourg, and also elsewhere. Luxembourg was an innovative jurisdiction in terms of setting up structures with multiple compartments, multiple sub-funds, for instance, which other jurisdictions did not allow. We had multiple share classes which were not permitted in other jurisdictions.

Therefore Luxembourg was at the inception of setting up that Ucits success. Today things have changed slightly, because we are in an environment of convergence from a regulatory perspective at European level. Therefore the position of Luxembourg, although still hugely successful, is based on other success factors.  

It is the recognition of Luxembourg as a pan-European or global fund distribution centre, the presence of many service providers, such as depositories, centre of administration agents, auditors and legal professionals.  The supervision by the Luxembourg Financial Sector Supervision Commission also plays an important role.  These factors today make Luxembourg still a very successful place for setting up Ucits funds.

PWM Do you feel the AIFMD can potentially be just as successful for Luxembourg, as the Ucits Directive?  Will fund managers want to come here and have the Luxembourg AIFMD stamp on their products, for infrastructure, real estate and other alternative investments, which can then be marketed around Europe and globally?

Claude Niedner  It will take time, in order to have that recognition in the market, but it will happen. The industry and also the authorities have identified positioning Luxembourg in the alternative investment fund industry as something very important.

Gilles Dusemon We are now three years into operation and moving fast. We have a framework we can work with. Stakeholders today need legal certainty, which the directive is providing. It allows managers to either set up in Europe and then embrace the European market as a whole, or to operate from outside. It is a matter of understanding what the objectives are, and how you can use the rules. Then slowly, but steadily, actors in the market are using the directive.

Claude Niedner Luxembourg has already been quite well positioned for real estate funds. But the AIFMD does add an international dimension. Today, asset managers are more likely to set up a fund where investors come from many jurisdictions, and where the fund is also investing into a different European jurisdiction. So they want to set funds up in a jurisdiction which provides international access, like Luxembourg. 

Investors are also looking for alternative opportunities in order to generate return. Today it is very difficult to generate return in fixed income, for instance, and therefore real estate does offer an opportunity. That also creates a sweet spot for the Luxembourg Investment Fund Centre, and also for real estate investment funds. Infrastructure is a very big topic, but private equity is even more important.

PWM As specialist lawyers, what kind of other regulatory innovations would you like to see available in the Luxembourg toolbox?  

Claude Niedner  There are two components. The first component is what we can do in Luxembourg. The Reserve Alternative Investment Fund has been the right initiative, at the right point in time, because it is using this general approach of the AIFMD to have manager supervised funds. The manager is subject to supervision, and as a result of that, the fund is indirectly supervised. Where Luxembourg for many years was embracing the approach of regulated funds, the Reserved Alternative Investment Funds (RAIFs) are unregulated funds, or manager supervised funds. In terms of speed to market and cost in order to set up the funds, this is a very attractive component. Also, RAIFs can be used for any type of asset class, for private equity, real estate, infrastructure and any other asset class. 

The second component is what happens at European level, where sometimes, there is a trend towards over-regulation. The Capital Markets Union initiative was a refreshing idea, about making capital from investors available to the European economy.

We have two levels of regulation currently. The Ucits Directive about retail funds, and the AIFMD about funds distributed to professional investors.  The middle ground has been occupied a little by ELTIFs, long-term investment funds, for professional and semi-professional investors.  

But the European authorities should think about investment funds which could also be sold to sophisticated individuals, and not limit them to these long-term investment funds, which are subject to too strict restrictions, in terms of what they can do, in terms of leverage. That is where a European initiative would be extremely welcome.

They need to add more flexibility and also enable sophisticated individual investors to invest, not only in fixed income and equities, but also into real estate, private equities and infrastructure. That would be my wish for initiatives at a European level. 

Gilles Dusemon Over-regulation makes it difficult to work. We need to strike the right balance between the two, but at the end of the day, legal certainty will always be the most important.

PWM  There are many technology initiatives in Luxembourg run by both the promotional body and the private sector. How can you help connect the two sides, the financial players and the technology players?

Revel Wood  Luxembourg, the government and various bodies are putting a lot of emphasis into the promotion of fintech. As the world’s second largest fund centre after the US, over the last 25-30 years Luxembourg has attracted many of the largest banks, investment managers, and with them technology. Many of those banks have looked to smartsource or to offshore operational centres. That is only achievable by investing in technology that allows you to run those global operating models. 

As a Luxembourg-domiciled, independent fund management company, we are often the eyes and ears on the ground and the glue that connects the full operating model for an investment manager that is further afield.  Whether it is in New York, London or Zurich, we bring that operational connectivity on the ground in Luxembourg.  Right from the very start in 2004 we started building connectivity to the largest global custodians and central administrators. We have pipes connecting into those organisations that allows the data to feed in through our data warehouse and ultimately, after scrubbing and cleansing that data, feeding into our risk and compliance engines. So, we can monitor all the regulatory fund prospectus requirements and internal limits that managers might require or the boards require.  What is evolving now is the value add one can offer with this data. Regulators are requiring more regulatory reporting and we are able to ease the burden on managers, by taking away that burden of that regulatory data reporting.

Fintech has been around probably for 20 years. It becomes more and more refined and gets more and more focused, as these organisations become more interconnected through a shared ledger, like the blockchain or bitcoin crypto currencies.  

Regtech is a relatively new phenomenon, being driven by post financial crisis increasing regulation, which has driven up costs.  

We have now automated functions which were largely manual in the past, like onsite due diligence of the investment manager or the central administrator that we report up to the board.  

Now we can go in, do our risk assessment and the scoring electronically. It has certainly created a lot of efficiency and ease for our clients to access the data online. That is a continued focus area.  

PWM  Are there any other top picks in terms of innovations in Luxembourg?  

Revel Wood  I think there has been a strong evolution over the last couple of years, in terms of electronic board packs, which makes it more efficient for board members to receive board packs electronically, annotate their notes and keep a record of those notes. With sanctions regimes, it is really important to demonstrate strong governance and ensure that the conduct is well monitored and noted. The governance tool we have invested in is more than just an ability to record and monitor, it is an aggregation of data and the ability to access information anywhere in the world. Having the capability to have a full view of your fund structure anywhere, any time is really important.  

But what is even more important, as we saw with the Yahoo scandal - with a billion accounts hacked, only to find that out a few years later - is that the information is kept safe.