In January, Hedge Fund Journal Journal published an article from Jersey Finance CEO, Geoff Cook, on the opportunities and challenges arising from Brexit for the hedge fund sector, and a Q&A with Stephen Hedgecock, Principal at Altis Partners on the trends in the markets.
With the Brexit ‘deadline day’ now seemingly set in stone as 29th March 2019, there has been much media focus in recent weeks on the challenges faced by British businesses, including the UK’s sizeable hedge fund community, in a post-Brexit environment.
Industry bodies have, for instance, been quite vocal in seeking reassurance about what a post-Brexit trade deal for financial services might look like, with the likes of the City of London Corporation and the CFA Society UK claiming that there is a real risk of an exodus of talent from the UK should a favourable trade deal not materialise.
The UK Chancellor responded fittingly with plans to create a “bespoke deal” for the UK financial services sector, in a move to calm Brexit-related fears.
However, whilst the media focus has been on the potential damage of a bad trade deal to Britain’s financial services industry, including its alternative fund industry, the reality is that the EU has a lot to lose too.
As far as hedge funds are concerned, for instance, a hugely significant proportion of investors are based in the UK. With no EU Member State currently able to compete with the likes of London in the area of financial services, access to the City is as important for EU managers as the EU is for UK managers – arguably more so.
Maintaining a workable route into the UK that extends beyond 29th March 2019 is absolutely vital and should be on the list of priorities for hedge fund managers. Jersey has been working hard to make sure it can offer managers the infrastructure and environment onshore European locations simply can’t and provide the post-Brexit solutions they need.
No-change for UK Access
It is uncertain how EU funds will be treated by the UK following Brexit. If the UK is considered an equivalent third country under AIFMD, it will be able to continue to distribute its UCITS and AIFs as AIFs under the AIFMD.
The same is not true, however, for EU-based funds, which will need to comply with National Private Placement (NPPR) rules in the UK. Of course, the UK may offer EU funds equivalence but this is far from certain and represents a real risk for those EU funds that have a significant proportion of investors in the UK.
However, for Jersey, which is already outside of the EU and has well established links with the UK, there is no change. Access to UK investors will remain just as it is today, unaffected by Brexit, through its tried and tested route to market.
Jersey, of course, has strong links with the UK. Research by Capital Economics*, for instance, shows that Jersey is well-established as a conduit for facilitating foreign investment into the UK, with the jurisdiction channelling £1/2trn of foreign investment into the UK each year – equating to £1 in every £20 of foreign investment – with 50% of UK bound foreign investment originating from outside the GMT time-zone.
The expectation is that, against the backdrop of uncertainty for EU funds created by Brexit, the sort of no-change solution for access to the UK which Jersey can offer is likely to become increasingly attractive to managers.
By the same token, Jersey’s funds platform also gives globally-focused managers the flexibility to focus on non-EU strategies, without the burden and cost of full AIFMD compliance that a manager would have to bear if they were based onshore in an EU Member State.
The ability to operate bespoke global strategies from a cost-effective platform looks set to become increasingly important too. According to the latest Preqin figures (Q3 2017 Quarterly Updates), emerging markets-focused hedge funds made the greatest gains (5.3%) in in the third quarter of any top-level region, with Asia-Pacific-focused funds also enjoying success over the same period making gains of 4.33%, compared to North America (2.43%) and Europe (1.96%). The same report also highlights that the greatest proportion (42%) of hedge funds launched in in the third quarter focused on global opportunities.
Doing this from an onshore location would be considerably more burdensome and costly, but Jersey offers the opportunity for managers to consolidate their EU and non-EU funds in one jurisdiction, providing access to a large base of UK and global investors that, post-Brexit, onshore EU countries might not be able to.
Jersey’s appeal for raising capital beyond the EU is underpinned by its tax neutral status, which is a particularly significant advantage operationally for complex hedge funds consisting of scores of vehicles operating in tandem. The simplicity and transparent nature of Jersey’s tax neutral regime for hedge fund vehicles allows for genuine operational flexibility.
This compares to certain onshore EU jurisdictions, where vehicles are operating in a taxable environment. That can result in huge complexity and risk, translating into higher advisory costs and less operational flexibility, particularly where they are relying on treaty access – something that may well come under scrutiny in light of the OECD’s Base Erosion and Profit Shifting (BEPS) initiative, which places an emphasis on proving real economic activity.
Meanwhile, Jersey’s model is geared up to be able to enable managers to demonstrate ‘substance’ in accordance with BEPS, thanks to the availability of an expert workforce, highly skilled NEDs and depth of risk management expertise.
For all these reasons, we see real opportunities for Jersey to play a supportive role for non-European hedge fund managers, and we have recently seen a particular rise in interest in Jersey from US managers who are looking for a European time-zone hub, outside of the EU and AIFMD rules, with easy UK and EU investor access and superior standards of governance.
Best of Both
Of course, the EU investor market remains an important one for Jersey too, and the jurisdiction has the ability to play a valuable role in helping UK and other non-EU hedge funds access the EU.
Firms here have a good deal of experience in linking managers with EU investors – around a third of Jersey’s funds activity touches the EU**. Jersey is already a third-country in relation to the EU (something the UK will become post-Brexit) and has all the infrastructure in place to enable hedge funds to continue to market seamlessly through its tried-and-tested private placement (NPPR) route into the EU.
A lot has been made of the AIFMD passport, but an onshore EU AIFMD passport solution may not necessarily be the only or best option. NPPR-friendly markets within the EU, such as the Netherlands, allow funds to access EU investors and avoid the burden of full AIFMD compliance. This has some unique and important advantages such as reduced reporting, no remuneration reporting requirements, and no depositary requirements.
There is a growing number of managers recognising this opportunity and establishing alternative funds in Jersey to make use of the NPPR option. Mid-year figures from Jersey’s regulator show that the number of alternative fund managers marketing into Europe in this way has grown 14% annually whilst there are now more than 270 funds being marketed into the EU via private placement, a year-on-year increase of 10%.
Private placement into the EU through Jersey is actually a very viable option – it’s stable, cost-effective and it works.
In this sense, Jersey’s funds regime offers the ‘best of both worlds’. As well as enabling non-EU managers to market their funds outside of the EU and the scope of the AIFMD, it also gives them the option of structuring their AIFMD-compliant funds within the EU under NPPR, without the need to ‘up sticks’ completely and set up in the EU.
It’s a combination that onshore EU countries simply cannot offer, and, because Jersey has already been assessed by ESMA for third country equivalence and passed with flying colours, it’s future-proof.
Jersey’s experience in the alternative funds sector should continue to give hedge fund managers reason for confidence.
The latest figures collated by the Jersey Financial Services Commission (June 2017) show that the total value of funds business administered in Jersey is up 18% year on year to stand at more than £263bn – with strong performances in particular in hedge (up 24% annually), as well as private equity (up 30%), reflecting the scale of specialist expertise, substance and operational excellence available in the jurisdiction too.
The introduction of rafts of international regulation has meant that managers are looking more and more to experts to help them navigate a complex landscape. The deep pools of professional non-executive directors, administrators, law and accountancy firms in Jersey is a real advantage, particularly compared to the more standardised onshore approach that is more geared towards commoditised platforms that require economies of scale.
Jersey is now, for instance, home to around 20 hedge fund managers, placing Jersey in the top ten hedge fund management hubs globally, benchmarked against Preqin and other industry figures, with those here mainly following a mixture of discretionary, quantitative, and systematic, global macro, managed futures and CTA strategies.
This provides some indication of the appeal Jersey holds for fund managers in a complex global funds environment, with these managers all having a real presence, employing people on the ground, and creating value – underlining Jersey’s commitment to adhering to the BEPS substance provisions.
So, whilst there may be some concern amongst the hedge fund management community about what a post-Brexit world might look like, Jersey can offer a robust option that not only supports UK and other non-EU managers wanting to access EU investors, but that also enables EU managers to access all-important UK investor capital too.
Disruption and upheaval are the last things fund manager firms want, and Jersey can provide a solution that can benefit the UK and the EU alike. In doing so, managers can be left to focus on doing what they do best – putting capital to work and generating returns for investors, without having to worry about fundamental structuring or operational changes.
Q&A with Stephen Hedgecock, Principal, Altis Partners
The Hedge Fund Journal caught up with Jersey-based Altis Partners Principal Stephen Hedgecock to talk about trends in the market…
Q: What is currently influencing fund management structuring decisions most?
Stephen Hedgecock (SH): When looking at jurisdictions, regulatory standards are paramount, and evidence of a regulator that is clearly pursuing international best practice is an excellent signal that should give managers confidence. As far as distribution is concerned, achieving equivalence in Europe is important too. Jersey thankfully engaged with Europe on the matter early on, and that puts us in a strong position.
In the current climate association with a credible jurisdiction is absolutely key too. That means one that is engaged with mainstream global practices and that clearly understands the industry.
Operating costs are also front of mind for managers, particularly with regards to BEPS. Running an operation of substance means that simple plaques are not acceptable without real functions being conducted in a jurisdiction, and having a good and easily accessible infrastructure is important too for those managers reliant on technology, automated systems and large data sets.
Q: What are the benefits of offshore jurisdictions compared to onshore jurisdictions?
SH: From a corporate structuring point of view, the sort of tax efficiency found offshore is attractive – tax neutrality is absolutely critical for cross-border activity, whilst offshore tax regimes can also be beneficial for company owners. In Jersey, for instance, owners only pay one side of corporate or personal tax. In the UK, however, there is Corporation Tax, Social Security as an employer and employee, income tax, and Capital Gains Tax. Then if you happen to be in a brown box going down a certain aisle, anything over £325,000 is taxed at another 40%!
In addition, managers trading their own accounts are not subject to CGT in Jersey, which in managed futures is regarded as a prerequisite for investors to see the manager trading its own offered programs.
The cost base tends to be appealing offshore too. In our personal experience, when we took up offices in Jersey back in 2004, our rent and rates were 40% cheaper than just our Mayfair London council rates!
Then there’s lifestyle. Offshore jurisdictions tend to be places with security, stability and good facilities due to their relative wealth. Jersey, for instance, has one of the highest GNIs of any country that is not reliant on petrochemicals for its ranking.
Q: Is Brexit having an impact on management operations?
SH: There is a sense that UK institutions are worried about being locked out of Europe post-Brexit. Thankfully Jersey is well ahead having been assessed for equivalence by ESMA several years ago.
There’s also the concern about the cost-base of the UK increasing with the country having to create its own legislation and regulatory framework, and already we’re seeing ‘golden hellos’ from certain European countries eager to attract business – often, interestingly, by mimicking the conditions offered by offshore jurisdictions.
Q: Does Jersey offer any specific advantages from a management point of view?
SH: The ability to recruit within the Island is a real benefit, there’s a huge amount of expertise and skill that is home grown in Jersey, which is so impressive and helpful for mangers looking to bulk out their operations. The government’s commitment to supporting the development of top grade office space is a real benefit too, particularly for those managers relying heavily on technology.
It’s also a pretty innovative, flexible and nimble financial services community that enables really quick regulatory approval for bringing funds to market, and modern thinking that has sparked the launch, for instance, of the world’s first bitcoin fund.
Q: Looking forward, what are the likely drivers shaping the hedge fund management landscape?
SH: It seems likely that regulation will continue to have a significant impact, with managers having to navigate some challenging waters that have the potential to impact operations further.
There’s also a trend towards a bifurcation in the market, with larger managers, which are perceived as being safer, on the one hand and smaller/medium sized managers on the other. That means there’s potentially a lack of new talent in the market.
In terms of fundraising, hedge managers will increasingly have to contend with more and more money being driven into private equity, based on a perception that there is a lack of absolute performance in the hedge space. As managers, we’ll have to work hard to win this money back.
*Jersey’s Value to Britain, 2016, Capital Economics
**Jersey’s Value to Europe, 2016, Capital Economics