Considerations on Fund Distribution post Brexit
The result of the general elections in the United Kingdom put the entire nation on a fast track for Brexit again.
Whilst we cannot predict whether there will be a hard Brexit or not, this post aims to recap some of the acquis of the previous years since the 2016 Brexit vote in one with considerations on how Fund Distribution post Brexit will look like depending on different case scenarios.
2020 the year of a hard Brexit?
With the majority win for the Conservative party, there should come the end to a period of political and economic uncertainty of the United Kingdom. At least that’s what everyone can realistically hope for. More than three years have lapsed since the 2016 Brexit vote, yet no closure has been achieved on the form of the withdrawal from the European Union. In the last year or so, uncertainly has been coupled to another growing feeling of restlessness, coming from a part of the society and the industry who wants just to be done with Brexit and move on to whatever is next on the list.
Will there finally be Brexit in 2020? Will Brexit take the form of a negotiated settlement or a no-deal departure from the European Union? Will there be a hard Brexit by the end of January or by the end of 2020? Whilst nobody does really have an answer to this, we noticed that the immediate aftermath of the UK general elections has seen a prevailing mood of collective euphoria about getting done with Brexit once and for all, with some momentum building especially around the idea that the United Kingdom can only benefit from being independent.
The concept of independence will have consequences on how fund distribution post Brexit will take place both inwards and outwards in our view. In fact, looking at outward distribution to Europe, it seems to be now generally accepted that the relationship between Europe and the United Kingdom going forward will be based on mechanisms other than the passport. Such an acknowledgment had triggered the migration since the 2016 vote of the majority of the UK based market participants in the investment funds ecosystem, where the business model was based on European distribution, to the main European gateways (i.e. Ireland and Luxembourg). Conversely, looking at inward distribution within the UK, the idea that a UK license will be required in the near future to be able to access and operate in this market, has recently sparked a new trend where market and industry participants with a UK presence will hold on to this tightly in order to be able to access in the future the UK market, keeping a foot onshore.
The Transitional Period and the Temporary Permission regime
Of course, even though some might still dread even the idea, we are all already accustomed in principle to the possibility of a so-called hard Brexit and the UK withdrawing from the EU without an arrangement. Given the two previous past postponements of Brexit (and we cannot rule out with certainty that there will be other postponements of sort) significant preparatory work has been done already by the UK government and some of the EU member states to introduce temporary measures to ensure a smooth transition, as much as it can be realistically possible, in case of a no deal hard Brexit scenario. As part of this work, we may want to mention the measures undertaken to establish temporary permission regimes (please read more about it here on the regimes established for UCITS and AIFs in UK) to allow for continuity of marketing of collective investment schemes in the UK in case of a no deal Brexit scenario. This is in addition to all the other work carried out by the UK government for the onshoring of EU legislation. Before the United Kingdom will become completely independent, the mentioned legal fiction provided for by the temporary permission regime will ensure that fund distribution post Brexit will very much look like business as usual for whomever was already authorised to offer products and services on the basis of the passport and had signified on time the intention to avail itself of the regime.
Another legal fiction similar to the temporary permission regime is envisaged as part of the Withdrawal Bill, this time called transitional or transition period. This one kicks in during the course of the negotiations with the European Union for as long as that either there is a new trade agreement or a hard Brexit. The transition period, which might last until the end of December 2020 and has an option to be extended for an additional period of time, assumes that until an arrangement is in place between the United Kingdom and the European Union, the United Kingdom will still be fictitiously part of the EU, with respective laws and ruling applicable. The transition period doesn’t rule out with certainty a hard Brexit, which is still a possibility if the Withdrawal Bill is not ratified at the end of January 2020 or an agreement is not reached by December 2020.
In principle, however there are measures that can cater for a hard Brexit and those are the ones of the temporary permission regimes that will provide an alternative cushion to the transitional period, should we ever have one. Whilst we can assume that there is short term solution in case of a hard Brexit, there is no way we can predict what the outcome of a potential trade agreement between the UK and the EU will be and what that will imply for the future of the fund distribution post Brexit.
The Issue of fund distribution post Brexit
Industry participants and the broader market has already accepted that it will be nearly impossible for UK market participants to retain the same or similar access to the EU market enjoyed under the passporting services. This is due in part to a more mature and realistic approach to the consequences of Brexit, on the one hand. On the other, instead, there is a very welcome shift of perspective, inspired to a hopefully long-term enthusiasm for the new opportunities that the independence of the UK can bring to its own market and participants.
Equivalence, highly criticised in the past by most, might now shine under a different light and possibly be welcomed. In fact, coupled with the unlocked third country regime for AIFMD and MiFID regulatory frameworks, for instance, it could realistically represent one of the possible avenues for the provision of financial services between the United Kingdom and the European Union in the future. Still early to say and with its own perils, for one that equivalence is not guaranteed and can also be revoked, lending itself to place the United Kingdom in a less dominant position vis-a-vis the European Union.
What Should Firms Do
With specific reference to the marketing and distribution of collective investment schemes, both under the UCITS and AIFM directive, we have to distinguish between inward marketing (EU to UK) and outward marketing (UK to EU). For existing fund products, the FCA had implemented a temporary permission regime, whose window of application is now closed. We can assume that for whomever hasn’t applied for the temporary permission regime – an we expect this to be the minority – or for new entrants in the market, the case of hard Brexit scenario will see kicking in the existing rules on national private placement regime.
In the extended version of the national private placement regime, all EU funds, UCITS included, will be considered as foreign AIFs and will accordingly be subject to the national private placement registration.
A registration under article 272 of the FSMA will be open for funds to be offered to retail investors and will exempt those funds from the reporting requirements under the national private placement regime, otherwise imposed. For the outwards marketing, instead, the scenario is also clear cut, whereby UK funds will be treated as non-EU and subject to private placement regime where available.
Whilst this seem to be straightforward, there might be other considerations to be made, more commercial and strategic in nature, as to whether it will make sense to create a parallel operation elsewhere in the EU to retain continued access to the European market, whilst retaining a UK presence to cater for that specific market, whose appeal might be revamped in light of the new opportunities and new audience that the renewed independence of the United Kingdom might bring.