Matthew Feargrieve: Regulatory Overview Hedge funds

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Matthew Feargrieve Shares regulatory overview of hedge funds in Switzerland




Welcome to the Matthew Feargrieve blog. Matthew Feargrieve is a qualified financial service lawyer in the UK. This blog post is part 1 of 2, and offers Q&A guide to hedge funds law in Switzerland, providing you a high-level overview of hedge funds in Switzerland. Areas covered include a market overview, legislation and regulation, marketing, managers and operators, restrictions and requirements, tax; private placement rules and upcoming reform.

Market overview

1. What is the structure of the hedge funds market? What have been the main trends over the last year?

To date, Switzerland has not been a very significant domicile for single hedge funds. However, Switzerland is a major market for the placement of funds of offshore hedge fund products and an attractive jurisdiction for the management and distribution of foreign hedge funds. Most Swiss-managed hedge funds are incorporated in the Cayman Islands.
Matthew Feargrieve
Matthew Feargrieve

Regulatory framework and bodies

2. What are the key statutes and regulations that govern hedge funds in your jurisdiction? Which regulatory bodies regulate hedge funds?

The key statutes and implementing ordinances governing local hedge funds (as a type of alternative fund) and foreign hedge funds, as well as Swiss asset managers of alternative funds, are the:
  • Swiss Collective Investment Schemes Act (CISA).
  • Swiss Collective Investment Schemes Ordinance (CISO).
  • Swiss Collective Investment Schemes Ordinance of the Swiss Financial Market Supervisory Authority (FINMA) (CISO-FINMA).
  • Swiss Ordinance of FINMA on Bankruptcy of Collective Investment Schemes (CISBO-FINMA).
In addition, circulars and guidelines published by FINMA also form part of the current regulatory framework, which includes, for example:
  • FINMA Circular 2016/7 on Video- and Online Identification.
  • FINMA Circular 2013/9 on the Distribution of Collective Investment Schemes.
  • FINMA Circular 2013/8 on Market Conduct Rules.
  • FINMA Circular 2009/1 on the Guidelines on Asset Management.
  • FINMA Circular 2010/1 on the Minimum Standards for Remuneration Schemes of Financial Institutions.
  • FINMA Circular 2008/10 on the Self-Regulation as a Minimum Standard, according to which the following guidelines published by the Swiss Funds and Asset Association (SFAMA) and the Swiss Bankers' Association (SBA) are recognised as a minimum standard within the industry:
  • SFAMA Guidelines on the Distribution of Collective Investment Schemes;
  • SFAMA Guidelines on the Calculation and Disclosure of Total Expense Ratio (TER);
  • SFAMA Guidelines on Transparency; and
  • SBA Guidelines on the Duty to Keep Documentary Records according to section 24(3) of CISA.
As the SFAMA and SBA guidelines are recognised as regulatory minimum standards, market participants must comply with these guidelines. The Financial Services Act (FinSA) and the Financial Institutions Act (FinIA) will be enacted from 1 January 2020. When enacted, the FinSA and the FinIA will become part of the standard regulatory architecture for hedge funds. However, the draft implementing ordinances for the FinSA and the FinIA has not yet been adopted and the final versions of the draft ordinances are expected to be published in November 2019. 

Regulatory bodies

For Swiss hedge funds, the regulatory bodies are the same as for retail funds. Therefore, the regulatory bodies are the:
  • Swiss Financial Market Supervisory Authority (FINMA). FINMA is the competent regulatory body and supervisory authority for hedge funds in Switzerland. FINMA is responsible for the:
  • authorisation and supervision of (among other things) fund management companies, asset managers of Swiss collective investment schemes and foreign collective investment schemes, distributors and representatives of foreign collective investment schemes;
  • the approval of fund products (if approval is required for distributing the respective fund product in or from Switzerland).
  • Swiss Funds and Asset Management Association (SFAMA). SFAMA is the representative industry association of collective investment schemes and their managers in Switzerland. The industry standards of SFAMA are of great significance. As mentioned, FINMA has recognised many of SFAMA's industry standards as minimum standards for all market participants (see above, Regulatory framework).
For auditing purposes, a dual supervisory regime applies says, Matthew Feargrieve.  Such a regime requires regulated fund management companies and asset managers.

3. How are hedge funds regulated (if at all) to ensure compliance with general international standards of good practice?

The Swiss regulatory framework's applicability to hedge funds and the level of regulatory requirements primarily depends on:
  • Whether the fund is organised under Swiss laws or foreign laws (that is, whether the fund is organised as a local hedge fund or a foreign hedge fund).
  • The category of investors to which the funds are distributed (for example, whether the fund is distributed to qualified investors or non-qualified investors).
In general, an investment fund qualifies as a "collective investment scheme" if the following requirements are met:
  • The assets are raised from investors for collective investment and managed on the investors' behalf.
  • The investment requirements of the investors apply on an equal basis.
CISA governs the following business activities in relation to collective investment schemes (funds):
  • Swiss funds and persons responsible for the management and distribution of funds and the safekeeping of assets.
  • Foreign funds distributed in Switzerland.
  • Persons managing foreign funds in or from Switzerland.
  • Persons distributing foreign funds in Switzerland.
  • Persons representing foreign funds in Switzerland.
CISA distinguishes between open-ended and closed-ended funds:
  • Open-ended funds will take the form of either:
  • contractual funds (FCPs) (where investors enter into a contract with a fund management company and a custodian); or
  • investment companies with variable capital (SICAVs).
The fund management company and the SICAVs must be authorised by FINMA. The relevant documents, such as fund contracts or the articles of association and investment regulation, must be approved by FINMA. Investors have the right to redeem their units at the net asset value.
  • Closed-ended funds take the form of either:
  • limited partnerships for collective investment schemes (LPs) or
  • investment companies with fixed capital (SICAF),
The LP or SICAF must be authorised by FINMA. The relevant documents, such as limited partnership agreement for LPs or articles of association and investment regulation for SICAFs, must be approved by FINMA. Investors have no right to redeem their units at the net asset value. Persons applying for a FINMA authorisation to operate, a fund management company, SICAV or SICAF must meet certain minimum requirements, for example:
  • Persons responsible for the management and business operations must have a good reputation, guarantee proper management and possess the requisite specialist qualifications.
  • Compliance with applicable CISA duties or obligations must be ensured by internal guidelines or regulations and appropriate organisation.
  • Sufficient financial guarantees must be available.
  • Significant equity holders must have a good reputation and must not exert their influence to the detriment of prudent and sound business practices.
CISA distinguishes between non-qualified investors and qualified investors to which funds may be distributed in or from Switzerland:
  • Qualified investors. These can be any of the following:
  • regulated financial intermediaries such as banks, securities dealers, fund management companies and asset managers of collective investment schemes, as well as central banks;
  • regulated insurance institutions;
  • public entities and retirement benefits institutions with professional treasury operations;
  • companies with professional treasury operations;
  • independent asset managers within the meaning of Article 3(2)(c) of the CISA;
  • high-net-worth individuals who declare in writing that they want to be classified as qualified investors (opting-in), provided they have education, professional experience or comparable experience in the financial industry, and therefore have the knowledge to comprehend the risks of the investments and have a net wealth of a minimum of CHF500,000; or they have confirmed in writing that they have a net wealth of at least CHF5 million (in this calculation, immovable assets can only be taken into account up to CHF2 million);
  • investors who have concluded a written asset management agreement with a regulated financial intermediary or an independent asset manager, unless they have declared in writing that they do not wish to be deemed as such (opting-out);
  • other categories of investors designated by the Swiss Federal Council as qualified investors (however, no such additional categories currently exist).
  • Non-qualified investors. These are all investors that are not classified as qualified investors.
The duration and the costs of the authorisation and approval process depending on the complexity of the fund management companies and funds (for example, the organisational structure, target markets, investment policy, and investment techniques) as well as whether the fund is organised under Swiss law or foreign laws.

Marketing

4. Who can market hedge funds?

Any person/entity planning to distribute local or foreign collective investment schemes on the retail market and/or to qualified investors, as applicable, in or from Switzerland requires prior authorisation from FINMA as a distributor. This is because any marketing activity that qualifies as a "distribution" under the CISA may trigger authorisation requirements for the distributor and for the fund.

However, the following are exempt from obtaining a distribution licence (since they are already regulated by FINMA):
  • Banks.
  • Securities dealers.
  • Insurance companies.
  • Fund management companies.
  • Asset managers of collective investment schemes.
  • Representatives of foreign collective investment schemes.
Distribution of collective investment schemes includes any offering of and advertising for collective investment schemes not exclusively directed at regulated financial intermediaries (that is, collective investment schemes not exclusively directed at banks, securities dealers, fund management companies and asset managers of collective investment schemes, central banks, and regulated insurance companies). Marketing activities constitute a "distribution" within the meaning of the Collective Investment Schemes Act (CISA). However, the following activities do not constitute distribution and are often referred to as "private placement rules":

  • The provision of information and the subscription of collective investment schemes at the instigation of or at the own initiative of investors, especially in the context of investment advisory agreements or for execution-only transactions.
  • The provision of information and the subscription of collective investment schemes based on a written discretionary asset management agreement with a regulated financial intermediary.
  • The provision of information and the subscription of collective investment schemes, based on a written discretionary asset management agreement with an independent asset manager which:
  • acts in its capacity as a financial intermediary according to Swiss anti-money laundering regulations;
  • is governed by the code of conduct issued by a specific industry body (provided the code of conduct is recognised as the minimum standard by FINMA); or
  • is based on a discretionary asset management agreement that complies with the standards of a specific industry body (provided the standards are recognised as the minimum standard by FINMA).
  • The publication of prices, net asset values (NAVs) and tax data by regulated financial intermediaries, as long as the publication does not contain contact details.
  • The offering of stock option schemes in the form of collective investment schemes to employees.
However, less stringent rules apply if foreign collective investment schemes are exclusively marketed to qualified investors (see Question 3). Authorisation from the Swiss Financial Market Supervisory Authority (FINMA) is not required to distribute foreign collective investment schemes, if all of the following requirements are met:
  • The foreign collective investment schemes are exclusively distributed to qualified investors.
  • The distributing financial intermediary is adequately supervised in its home jurisdiction.
  • A licensed representative of the foreign collective investment scheme and paying agent in Switzerland are appointed.
  • The name of the collective investment scheme does not give rise to any deception or confusion.
Hedge funds are, in principle, available to both qualified investors and non-qualified investors. However, more stringent rules apply to Swiss or foreign hedge funds distributed to non-qualified investors: the Swiss regulatory framework (if applicable) is less burdensome if alternative funds are exclusively distributed to qualified investors.

Therefore, and as Swiss managed or Swiss marketed hedge funds are most often incorporated in jurisdictions outside of Switzerland and/or the EU, these funds are typically only distributed to qualified investors.

5. To whom can hedge funds be marketed?

Hedge funds are in principle available to both qualified investors and non-qualified investors. However, more stringent rules apply to Swiss or foreign hedge funds that are distributed to non-qualified investors. In other words: the Swiss regulatory framework (if applicable) is less burdensome if alternative funds are exclusively distributed to qualified investors.

Therefore, and as Swiss managed or Swiss marketed hedge funds are most often incorporated in jurisdictions outside of Switzerland and/or the EU, these funds are typically only distributed to qualified investors.

Join us for the second part of this blog.

Matthew Feargrieve is a qualified financial services lawyer in the UK and as a commercial lawyer in the Cayman Islands and the Eastern Caribbean. He is also familiar with the regulation of investment funds and management companies based in Luxembourg and Ireland. Learn more about Matthew Feargrieve on his website here. You can also join Matthew Feargrieve's professional network by connecting on his Crunchbase page here. Alternatively, you can watch the Matthew Feargrieve video here

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