ESMA may have recommended the Channel Islands for the AIFMD passport, but there’s no clarity on when it will come into effect. so what’s the current state of play?
This article was written prior to the UK’s referendum on the EU.
Good things come to those who wait, apparently. It’s been a year since the European Securities and Markets Authority (ESMA) told the European Commission (EC) it would recommend Jersey and Guernsey for third-country passports, which would allow the islands’ fund managers to market their wares across the EU under the Alternative Investment Fund Managers Directive (AIFMD). Twelve months on, there’s still no passport, nor is there any immediate sign of one. And so the wait continues.
It was last July that ESMA announced its conclusion that ‘no obstacles exist to the extension of the passport to Guernsey and Jersey’. At the time, it felt like a win for the islands – Switzerland was the only other country to be recommended – and only then on condition that it changed some of its laws.
Meanwhile, ESMA failed to come to any conclusion on the other three financial services strongholds it examined – Hong Kong, Singapore and the US. So after such a promising start, why has nothing come of it? First, ESMA also recommended that the EC shouldn’t introduce passports until it has a good view on how its own member states have fared with AIFMD. But many haven’t enacted the complex regulations yet.
The EC, acting on another of ESMA’s recommendations, then confirmed in December last year that it would only make a decision on extending the passports when a sufficient number of third countries had been assessed. "We don’t know what a sufficient number is, of course," says Andrew Weaver, a Partner at Appleby. "So we’re still in the waiting game. On the one hand, Jersey and Guernsey have been told that we’re great. On the other hand, they’re saying they’re not going to let us in the door until they’ve seen others."
So, given the lack of concrete outcome, has the passport recommendation actually meant anything for the islands’ funds industries? Simon Schilder, a Partner at Ogier, believes it has.
"Market confidence among those in the funds industry regarding the Channel Islands has been good because of it," he says. "For managers of funds aimed at EU-based investors, who are looking at potential jurisdictions to structure those funds, the Channel Islands recommendation gave certainty, which has definitely helped."
The delay in getting the passport is also softened by the success of the National Private Placement Regime (NPPR), a stop-gap solution that allows fund managers to market to the EU on a state-by-state basis. Hence there are plenty of reasons why someone raising a fund and wanting to structure offshore would come to the Channel Islands.
Juggling jurisdictions
As for when this stop-gap will become anything more permanent, the jury is still out. ESMA is a relatively small organisation, charged with assessing the suitability of non-EU jurisdictions – of which there are many. At the time of going to press, it is due to finish the assessments on Hong Kong, Singapore and the US, plus a further six – Japan, Canada, the Isle of Man, Cayman Islands, Bermuda and Australia.
ESMA also relies on the co-operation of each jurisdiction in helping it speed through the assessment. While a funds-reliant jurisdiction like Jersey jumped at the chance to get the passport, and so made life easy for its assessors, the US has a massive funds industry to investigate and happens to have other issues it will see as more pressing – not least its upcoming presidential election. But for a country with its eyes firmly somewhere else, the US could wind up playing a major part in dictating when the passport comes in.
"ESMA won’t introduce the passport if it causes market disruption," says Schilder. "But there would be market disruption if you introduced it without giving it to the US and Cayman Islands, given their significance to the funds industry. Cayman is keen and has been diligent with answering questions from ESMA, but it’s not as important for the US, so they’ve maybe been less diligent.
"It’s unfathomable that the EU could introduce the regime without the US, but at what point do they get comfortable with what the US is doing?"
Weaver points out that it’s not just a matter of getting through the assessments and dishing out passports. "Imagine the EC turns around saying seven of the assessed jurisdictions are suitable, five not," he says. "Would they say it’s OK to give the passport to those seven? Or would they say seven isn’t a big enough pool, and send ESMA back out to assess another load of jurisdictions. We don’t know."
In the meantime, the EC has modified what it wants from ESMA – not only an assessment of each jurisdiction’s suitability for the passport, but a detailed assessment of the capacity of their regulators and their track record of enforcement too. So even with the recommendation in the Channel Islands’ back pocket, they’ve still had to answer the door to the assessors again.
"They have a few more questions on a number of things, to get more detail," says Mike Jones, who as Policy Director at the Jersey Financial Services Commission has been in talks with ESMA.
"It’s quite a technical piece of work and there are always issues, but we’re in a very good place. For example, they’re looking at Jersey’s AML regime, and our report has as good a rating as any jurisdiction in the world. We don’t think there’ll be any potential issues, so we’re kind of as we were."
Which, unfortunately, is back to playing the waiting game.
Best of both worlds
It’s easy to assume that the funds industry on the islands must be getting frustrated by the merry-go-round, but that’s not necessarily the case. Much of the industry is happy as long as the NPPR route to EU marketing remains open. They have a combination of a positive endorsement from ESMA, NPPR access, and the ability to provide optionality: if a manager isn’t touching the EU, they can still use a Channel Islands fund and not have to comply with the full rigour of the directive.
"It’s not having a massive impact on our clients’ structures now," says Stuart Pinnington, Head of International Client Services at JTC Group. "There’s huge money coming from the US, Middle East and Asia that doesn’t care about AIFMD. Plus we’ve got the NPPR, and the JFSC did well to get that working.
"It’ll be good to know about the passport, but I don’t think there’s anyone on the islands who doesn’t believe we’re going to get one at the front of the queue. We all just get on and do our thing – it’s not as big an issue as it might appear."
Pinnington makes another key point: the fabled passport isn’t the only thing that fund managers have to think about right now. In fact, the landscape for managers and investors is wildly uncertain in any number of ways.
"There are a whole host of other drivers that are having an impact, from Donald Trump to Brexit," he says. "Brexit needs to be sorted out. The majority of the Channel Islands’ fund manager base is located in the UK. What affects those guys clearly has an impact on the industry here."
But even with the many ifs and buts affecting the industry, would it be good if the passport came in sooner, so the islands could steal a march on rivals that aren’t recommended? Maybe, but given the EC’s plans to build a larger pool of passports, that’s unlikely to happen. And what would happen to the NPPR system if and when the passport does come in?
"If there’s an obligation to switch off the private placement regimes, I’m not sure which would be the better option," says Weaver.
"Having both at the same time would be an excellent outcome for us, but we’ll see. We could find we have passport rights but not NPPR access, where Cayman could keep private placement access and not passport rights. And it’s difficult to see which would be best right now."