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Home > Regulation > EU Directives

By Nick Reeve | Published Jul 19, 2012

Ucits V could push cost of emerging market investing up

Frontier markets and emerging markets funds could see their costs spiral up if European rules on depositaries are pushed through by Brussels policymakers.

Under Ucits V, a draft version of which was published last week, fund depositaries will be subject to ‘strict liability’ rules which would require them to act as insurers if assets are lost or stolen.

This may cause significant problems to funds which invest in frontier and emerging markets, as some countries do not have large multinational custodian banks operating in them to protect client assets. This would mean depositaries are forced to act as insurers, rather than just a holding account for funds.

Investors would also be able to sue the depositary for any losses, under the Ucits proposals.

Peter Grimmett, head of fund regulatory development at M&G, said the cost to investors of a typical fund with an annual management charge of 1.5 per cent could be an additional 5-10 basis points.

He added: “There may be an argument for US or UK equity managers to reduce this cost as no one has ever lost assets like that in these funds, so we may not see those costs increase.

“But some depositaries might say they are not going to provide depositary services for emerging markets funds as it is too expensive.”

Moody’s Investors Service, the credit rating agency, agreed that rising depositary costs would be passed on to fund managers, and said this could lead to fund managers being forced to limit the choices available to investors.

Vanessa Roberts, vice president and senior credit officer at the agency, said in a report that the Ucits V measures would put pressure on fund manager profitability, but at the same time introduce a punitive penalty for non-compliance of 10 per cent of revenue.

Emerging markets funds are already on average more expensive than developed markets funds. Morningstar data shows the average total expense ratio of the 52 actively-managed funds in the IMA Global Emerging Markets sector is 1.85 per cent, compared with 1.63 per cent in the IMA UK All Companies sector and 1.69 per cent in the IMA Europe ex UK sector.

Franklin Templeton offers 18 emerging market equity and debt funds to UK investors, including veteran investor Mark Mobius’s $919m (£591.7m) Templeton Frontier Markets fund, but the firm declined to comment on the potential impact of the European directive.

A spokesperson for First State Investments, which offers 22 retail emerging markets funds, said it was “too early to comment” on the Ucits V proposals.

The Ucits V depositary rules have been copied across from the Alternative Investment Fund Managers Directive (AIFMD), which is in the latter stages of ratification by the European Union. The Ucits V laws will now be debated by the European Council and European Parliament.

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