With the deadline of UCITS V implementation coming next month, investors and asset managers should be aware of the characteristics of the increasingly demanded product of UCITS. The idea of the so-called “Newcits” was introduced for better investor protection after the financial crisis. UCITS III in 2001 introduced the use of derivative instruments such as options and futures and focuses more on the product side, while UCITS IV focuses more on the fund management. Regulators continuously seek for better protection of investors’ capital by imposing regulations regarding liquidity, short-selling, leverage, reporting, concentration risks and investable asset classes. UCITS V will not revolutionize the UCITS directive but focuses on improving the existing UCITS IV by harmonizing the depositary functions, putting limits on remuneration packages and governance.
The regulators seek for better risk-return trade-off and not only for mitigating risks, but are their actions pointing towards their goal? And do they or the investors actually understand the risks within investments? For example, some institutions consider alternative investments as risky investments and they urge the managers to stick to traditional investments, which according to this perspective is riskier than investing in other vehicles. The need for diversification especially in low yielding and noisy financial environment is something that investors should consider before their allocations. Similarly, in the asset management industry and especially in the hedge fund sector, limiting managers’ tools could demise their performance to generate alpha (α) for their investors.
Liquid alternatives seem to be a robust diversification option for managers and by robust this perspective suggests the non-increasing correlation of UCITS funds with traditional investment vehicles and indices. In the years of financial crisis, investments which had until then uncorrelated profile such as real estate, started to behave like traditional investments which led to the vanishing of liquidity from the markets and eventually the crash. Although alternative UCITS have not been tested in crisis environment, their whole design is based on avoiding similar situations. This perspective attempts to analyse their performance and risk attributes compared to similar investing strategies for the period of 2012-2015.
After analyzing the purposes of the UCITS regulatory requirements about protection of investors’ capital and interest, it would be interesting to examine if investors lose from the implementation of UCITS. It should be mentioned that the comparison between the strategies is indicative and not robust due to the different level of fee structures, liquidity, leverage and concentration. The comparison becomes more complex if we account for the biases existing in the hedge fund industry.
The above are just illustration of UCITS performance relative to offshore hedge funds and traditional indices, but the actual challenge that remains is the comparison of offshore funds that changed their structure to UCITS. And most importantly, UCITS funds need to be tested during a crisis environment to realize if it offers protection to investors or poses more problems to their investments.
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