The EDHEC-Risk Institute has put forward a series of recommendations aimed at improving management of non-financial risks within the European fund management industry, following three years of research on the topic.
The institute says the level of sophistication within the Undertakings for Collective Investment in Transferable Securities (UCITS)—a set of European Union directives—is one of the principal causes of a rise in non-financial risks produced by the operation of the value chain of the collective investment management industry itself.
In order to deal with this and add a new dynamic to UCITS, EDHEC-Risk Institute recommends the implementation of regulation and promotion of better practices with regard to non-financial risk. These proposals can be categorized into three major themes.
The reinforcement of information on non-financial risks, particularly with a requirement for the Key Investor Information Document, to contain a description of gross risk exposure and how to manage these risks, as well as a synthetic indicator of the fund’s net risks. In the same vein, the duty to advise would be reinforced with respect to non-financial risks.
Increase the responsibility of all actors within the fund management industry. This new system of shared responsibility breaks with the idea that depositaries can protect investors from all non-financial risks, which are often taken by fund managers. It will lead to the creation of incentives to better manage non-financial risks by associating the level of required regulatory capital with the level of residual non-financial risk taken by the major players in the value chain.
Lastly, the institute recommends that as a reaction to the sophistication of UCITS, which potentially exposes investors to greater non-financial risks, a new label of Restricted UCITS be created. This would establish a UCITS category with a scope for investment that is limited to what the depositary can actually hold and thus return without difficulty, thereby ensuring that the depositary would be able to benefit from a total guarantee. This Restricted UCITS label would allow UCITS funds, which would rightly benefit from a secure image, to be marketed not only to European retail clients but also on a global platform.