Regulation is bringing about change in the investment markets. In particular, the Alternative Investment Fund Managers Directive (AIFMD) and the Undertakings for Collective Investment in Transferable Securities V (UCITS V) are prompting funds to place a greater emphasis on the quality of their securities services. As such, they will require a provider with a thorough understanding of cultural and regulatory nuances, and an ability to adapt quickly in the face of changing regulations.
It is easy for firms to regard these latest regulations as a burden. Certainly, compliance will cost time and money in the implementation of new processes – with little promise of direct financial reward. Yet the investment is not without benefits.
For a start, these regulations promote security, efficiency and standardisation. Moreover, in what is a challenging environment there is the opportunity for firms to carve themselves a competitive advantage by being better prepared than their peers.
Moving forward, funds will need to demonstrate flexibility in the face of change. Markets will remain volatile, harmonisation will remain imperfect and regional variations will persist. It is therefore adaptability that will distinguish successful funds from the pack. They must remain sensitive to changes in the market, and to how these affect their needs. As they do so, they must act fast to meet those needs.
Right now, the need is for greater risk management – through local expertise and adaptability. This is particularly challenging in the Central and Eastern European (CEE) region, where despite regulatory improvements, a significant degree of fragmentation still remains.
Moving away from competition through pricing
Certainly, in the wake of AIFMD and UCITS V, risk management must be a key focus for fund managers – and this is changing the way they view their securities services.
Previously the high number of service providers created an over-saturated market, leading to high cost pressures and competitive pricing. However, there has been a shift in the balance between cost efficiency and risk mitigation as regulatory pressures compel funds to consider not just the price, but also the quality of the services they require. Finding the proper balance between the two will be a key consideration for fund managers going forward.
Funds will therefore wish to maintain an open dialogue with their service providers; one that keeps track of companies’ needs and ensures they receive the appropriate level of sophistication and flexibility. Crucial here is the need for providers to have a firm grip on their clients’ business models and concerns. This will enable them to tailor their service to the client’s specific needs, by providing the right level of sophistication at the right price.
Return on investment
In return for this move towards more cost-intensive securities services, funds can expect several benefits. For instance, digital technology will play an important role in making processes flow more smoothly and efficiently – thereby reducing costs.
Indeed, thanks to digital technology, funds’ waiting time to view their balance has been cut to practically zero, with online platforms enabling them to view all assets held in custody at the click of a button. These are already driving significant efficiencies for domestic clients – drastically improving cost-income ratios.
Of course, funds can expect more than just subsidiary benefits. With greater investment comes the expectation of a higher level of quality in the core services. With this in mind, local expertise is a quality that funds must demand of their providers.
Why? Because operating in different regions requires different approaches. This is true even for operations that fall under the AIFMD and UCITS V regulations, which aim at harmonisation. The difficulty is that although the essence of the rules does not change, their application around the world tends to give rise to nuanced legislative discrepancies from country to country.
CEE is a case in point: although classified as a region it is composed of numerous countries that differ significantly in terms of their market size, market liquidity, maturity, political situation, economic potential and culture.
These differences have informed their respective legislative frameworks, with the consequence that new regulations are often applied differently in different countries – according to variations in the existing legislature. What’s more, new regulations are always open to divergent interpretations, which can themselves be exaggerated by cultural differences among local regulators – resulting in further variation between countries.
In fact, country-specific differences in execution abound in the CEE region’s securities services industry – not least in terms of corporate actions. Managing corporate actions in these countries therefore requires specialist knowledge, making local expertise a ‘must-have’ for securities services providers in the CEE region.
The need for a flexible approach
Of course, this expertise must not be static. The environment is constantly evolving: implementation of AIFMD and UCITS V is just one market change among many more that can be expected. Negotiating these regulations is therefore as much a question of being flexible and able to adjust quickly as it is a question of knowledge.
Consequently, with the forces of change showing no signs of letting up, these two qualities of local expertise and adaptability – must be at the heart of funds’ drive towards greater risk management. Together they provide fund managers with the nimbleness to negotiate the intricacies of investment regulations, even as these continue to evolve.
This is precisely the preparation that can see progressive funds flourish in challenging times, overturning adversity with versatility and prevailing against the tide.