By Matthew Feargrieve
Switzerland is the third largest global centre of alternative asset management, after North America and the United Kingdom. Around three times the size of Connecticut, the small, central European country boasts approximately 15% of global assets under management. This blog examines the composition of the Swiss alternative asset management market, focusing on single managers and managers of funds of hedge funds (FoHFs); reviews the current and prospective regulatory environment in Switzerland for each type of manager; and assesses the country’s future generally as a centre of alternative asset management against the backdrop of economic austerity and regulatory zeal in Europe.
https://www.pwc.ch/en/events/sustainable-finance-conference.html
https://www.pwc.ch/en/events/sustainable-finance-conference.html
At a Glance Switzerland is the largest centre in continental Europe for managers of alternative assets, with France coming second and Germany and the Netherlands a joint third.
- The main financial centres in Switzerland are Zurich, Geneva and Lugano.
- There is approximately US$7 trillion of assets under management by banks in Switzerland, approximately 60% of which are booked in Zurich, 30% in Geneva and 10% in Lugano.
- There is approximately US$100 billion of alternative assets under management in Switzerland held in single manager funds.
- There is approximately US$300 billion of assets under management in Switzerland held in FoHFs.
- Single Managers Switzerland has an approximate 5% share of the global single manager market.
- The country is home to 10 of the world’s 30 largest single managers, together with around 500 smaller managers.
- There is approximately US$100 billion of alternative assets managed in Switzerland by single managers, around half of which is managed in Zurich with the balance split between Geneva and Lugano. Of that US$100 billion:
- 60% is held in Cayman Islands domiciled investment funds;
- 15% is held in British Virgin Islands funds;
- 10% is held in Luxembourg funds; and
- 5% is held in Guernsey funds.
Swiss single managers, operating largely outside the EU regulatory framework, have a demonstrable preference to house their assets in the leading “offshore” financial centres (principally the Cayman Islands) and, to a lesser extent, EU fund domiciles like Luxembourg.
FoHF Managers There is approximately US$300 billion of assets under management in Switzerland and held in funds of hedge funds. Although having been hit hard by redemption pressures, illiquidity of underlying funds and the Madoff fraud during the past few years, Swiss FoHF managers control one-third of global FoHF assets. Switzerland is home to 6 of the world’s 15 largest FoHF managers, the majority of which are in Zurich. Around 75% of Swiss FoHF assets are managed in Zurich, the balance in Geneva. Swiss FoHFs attract three-quarters of their assets from European investors, mainly institutional allocators, and this goes some way to explain the domicile choice for the FoHFs. Of FoHF assets of US$300 billion:
- 43% is held in Swiss domiciled investment funds;
- 29% is held in Luxembourg funds; and
- the remainder is held in Jersey and Guernsey funds.
In contrast to the domicile preferences of single managers, Swiss managers of FoHFs prefer “onshore” to “offshore” domiciles. The high level of allocations from EU institutional investors, such as pension funds, is the key driver behind their choice of EU fund domiciles over non-EU domiciles.
The Regulatory Landscape Switzerland The Swiss government and financial regulatory authorities have historically had a benign approach to the oversight of hedge fund managers. Only those managers selling fund products to the retail public in Switzerland are required to be licensed by FINMA, the Swiss Financial Market Supervisory Authority. The majority of single and FoHF managers take advantage of a provision in the Swiss Collective Investment Schemes Act (CISA) that effectively exempts managers selling to “qualified investors,” broadly supervised financial institutions and their clients.
Investment funds domiciled outside Switzerland are not subject to any supervision by FINMA. Advisers to hedge funds are not subject to regulatory oversight or licensing requirements in Switzerland as long as they do not participate in the running of the fund and do not engage in brokerage activities. The Swiss Federal Banking Commission (SFBC) is considered to have sufficient oversight of the hedge fund industry through its supervision of the banks in Switzerland, which usually hold the assets and act as prime brokers, albeit primarily through their London and New York operations.
To date, the SFBC’s view has been that this kind of indirect regulation of the Swiss asset management industry is an adequate means of ensuring an appropriate level of macro prudential oversight.
Take up of UCITS As an EU regulated investment product, UCITS can be sold throughout the EU to both institutional and retail investors. In addition to being attractive, fully regulated investment products for EU pension funds, UCITS open up to managers a previously forbidden client base: retail investors. A significant portion of Swiss FoHF managers domicile their funds within the EU, increasingly in Luxembourg, in order to maintain their leading position in the European FoHF market. Dedicated Swiss FoHFs Harcourt, Man Investments/RMF and GAM have all launched UCITS FoHFs, as have several Swiss-based private banks such as Credit Suisse, Pictet, 3A (Bank Syz), Clariden Leu and EFG.
It should be noted that the UCITS framework does not provide for direct translation of portfolios of traditionally structured hedge funds into a UCITS compliant format; however hedge fund index replication techniques remain one option to provide investors with quasi-FoHFs exposure through a UCITS fund. Given the increasing number of hedge fund strategies being operated within UCITS-compliant structures, there appears to be an increasing opportunity for growth of a nascent Fund of UCITS Funds market driven by managers in Switzerland.
On the other hand, the greater pressure to generate higher performance returns experienced by Swiss single managers (in line with single managers the world over) makes the majority of them skeptical about UCITS. They point to the significant restrictions the UCITS regime imposes on use of leverage, shorting and derivatives, and the knock-on impact that has on returns (not to mention fees). For single managers, this is a serious downside of UCITS. The problem of lower returns and lower fees is compounded for investors and managers alike by the higher organizational costs involved with UCITS which are sky-high compared to the traditional Cayman private fund model. The slow and burdensome regulatory approval process, conservatively taking two to six months, is also a major turn-off for most single managers.
The majority of Swiss single firms manage non-EU, non-UCITS funds. If they want to sell those funds into the EU, they have a number of choices: continue to market their funds on a private placement basis (and comply with the new regulatory requirements imposed by the AIFM Directive); adopt full compliance with the AIFM Directive and obtain a “passport”; or go the UCITS route, either in alternative or addition to the traditional offshore products.
Conclusion In line with their peers in the United Kingdom and, to a similar extent, the U.S., managers in Switzerland have faced a fourfold challenge in the post-AIFMD world: (1) increased prudential supervision; (2) amendment of local laws designed to ensure access to EU markets under the AIFM Directive; (3) increasing scrutiny by regulators and tax authorities of the “substance” of offshore structures; and (4) a heightened interest by regulators and investors in the corporate governance of hedge funds. These industry developments were handled with confidence by managers in the world’s third largest centre of alternative asset management.
Matthew Feargrieve is a financial services consultant and blogger.
