Europe’s misguided directive
2 October, 2009
Andrew Baker, chief executive officer of the Alternative Investment Management Association, says that the AIFM Directive could be devastating for pension fund investors
We realised very early on in our campaign to change the European Commission’s proposed Alternative Investment Fund Managers (AIFM) directive that it would be difficult to make policy makers listen to our concerns if it were seen as just an issue for the hedge fund industry. That is why it has been so important to gauge the views of pension funds and other institutional investors.
Many such investors have been determined to submit their misgivings to their national finance ministers or the Commission. A group of 10 of the biggest Dutch pension funds and institutional investors wrote a letter to the internal market commissioner, Charlie McCreevy, in August. The investors – representing a combined €450bn of assets under management and including such luminaries as APG and PGGM – said the directive “may reduce investment opportunities and risk diversification, lead to higher costs and lower returns and may not reach its intended objective to reduce the systemic risk as experienced under the current financial crisis”.
Another important submission came from the UK’s National Association of Pension Funds (NAPF), which said in a letter to the Commission on 14 September that the directive was “flawed” and would reduce choice and raise costs for investors.
Indeed, it would be helpful if other European pension funds that are concerned about the directive would contact their national ministers of finance before the end of the year. The consultation exercise for the directive was famously short – but we believe there is still time to influence policy makers before they reach their final decisions.
Loss of choice
To be clear, the draft directive contains many useful and constructive proposals. We welcome the efforts to achieve a single European market for alternative investment funds, to safeguard investors in those funds and to ensure that alternative investment fund managers are appropriately authorised. And we support those areas of the directive that underpin our own goal of greater transparency around areas of concern with respect to systemic risk issues.
However, pensions managers, advisers and consultants are right to be worried about many other aspects of the draft directive. There are proposals, for example, that would make it extremely difficult for investors to access alternative investment funds either domiciled outside the European Union or run by non-EU hedge fund managers. We estimate that this covers around 95% of funds globally, such as those in the US and Asia. Investors want access to the best investment talent globally – they do not want to be told where they should invest their money.
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" the interim cohort projections of improvements have continued to be used even though they are now out of date" |
Furthermore, the directive affects all EU non-UCITS funds – that is, funds not covered by the Undertakings of Collective Investments in Transferable Securities (UCITS) directive – such as hedge funds, funds of hedge funds, private equity, real estate, commodities and infrastructure funds. That is an enormous swathe of the European asset management industry.
The directive would lead to unnecessarily increased compliance costs, which would almost certainly be passed on to investors. To give an idea of how large these could be, Open Europe, an independent think-tank, surveyed our members in August and found that complying with the directive would cost the European hedge fund and private equity industries between €1.3bn and €1.9bn in the first year of the directive, and between €689m and €985m in subsequent years. Open Europe said total compliance costs would increase by almost one-third on average.
And while costs would rise, returns would be likely to fall. The directive’s proposed restrictions on leverage and liquidity would prevent many strategies from operating, potentially diminishing returns for investors. We have calculated that if Europe’s pension funds were unable to invest in alternative investment funds like hedge funds, they could miss out on up to €25bn a year in lost investment performance. That could spell trouble for already-stretched pension funds across the EU and even raise questions about their ability to address the challenges created by Europe’s ageing population.
The support of the NAPF, the Dutch pension funds and other concerned investors gives us cause for guarded optimism that the directive will be revised substantially. We thank them for their interest and support, and we would encourage others to follow suit.
But we are not taking anything for granted. This campaign is a long, hard road with an uncertain destination. We can but hope that Europe’s policy makers will make appropriate and sensible revisions to the directive and deliver what we all want: financial stability and investor protection. n
Andrew Baker is the chief executive of the Alternative Investment Management Association, the global hedge fund trade body.
modeloverview
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The structure of the model is based on the projection of annual rates of mortality improvement (ie, the pace of change in mortality rates). Specifically, the model assumes that current (ie, recently observed) rates of change blend over time into a long-term rate of change specified by the user. This approach has been adopted by practitioners in a number of countries. In the UK the mortality projections that have formed part of the population projections – now produced by the Office for National Statistics (ONS) and formerly by the Government Actuary’s Department (GAD) – have utilised this methodology for a number of years.
In contrast to mathematical models of mortality, fitted directly to relevant data and extrapolated to form a projection, the model requires the user to set parameter values which directly control the projection. The model produces a single, deterministic, mortality projection for each set of user inputs. The structure of the model allows user input of:
n Base mortality rates, reflecting the estimated current or recent past position
n Initial rates of mortality improvement, reflecting the current estimate of rates of change
n Assumed ultimate / long-term rates of mortality improvement
n An assumed speed and pattern of convergence from initial to long-term.
Initial and long-term rates of mortality improvement are each subdivided into two components: by age and by cohort. These components are projected separately, by age and by year-of-birth cohort respectively, and then recombined. Convergence from initial to long-term rates of mortality improvement is defined by user inputs for the convergence time-period and the proportion of the total change in rate remaining by the mid-point of that period. Effectively this approach assumes that, in the very short-term, a good guide as to the likely pace of change in mortality rates is the most recently observed experience.
In the long-term, the forces driving mortality change are likely to be very different. Therefore, the long-term rate is better informed by expert opinion and analysis of long-term patterns of change and the causes driving them. Over time, the relative weight placed on the recently observed past, versus the more subjective longer-term view, can shift appropriately. Such a model structure could be achieved through a suitably parameterised statistical model. However, at the heart of the model design is the desire to produce a tool which is easy to understand, intuitive in structure and capable of widespread application by users with varying degrees of expertise.
Following the period of consultation it is expected that the final version of the model, version 1.0, will be published in October 2009 together with an updated user guide.
Find out more at http://tinyurl.com/l5z2yx
