On 19 July 2016, the European Securities and Markets Authority (ESMA) released its latest advice1 on the extension of the AIFMD2 passport to non-EU alternative investment fund managers (AIFM) and alternative investment funds (AIF).
Having conducted its regulatory assessment of just over half of the twenty-two third countries which it identified as being relevant in the EU market, ESMA’s overarching suggestion to the European Council, the European Parliament and the European Commission (the EU Institutions) is that they might wish to consider waiting until ESMA has delivered positive advice on a sufficient number of third countries before opening-up the passport regime. Jurisdictions which have received an unqualified thumbs-up from ESMA are understandably keen that the EU moves towards implementing the passport regime sooner than later, though jurisdictions with a bit more work to do prefer ESMA’s suggestion of delay.
The Channel Islands have been quick off the mark in building into their regulatory framework appropriate accommodation of the requirements of AIFMD and they have been rewarded by ESMA with confirmation that there are “no significant obstacles” to the AIFMD passport being extended to the Channel Islands3 . The Cayman Islands are a good distance along the path to a positive assessment, though ESMA has sought identified refinements to Cayman’s regulatory framework before such an advice is given; the legislative process for the implementation of these additional requirements is in process and they are expected to be delivered fully in the next few months. The British Virgin Islands are yet to be assessed by ESMA, and are benefitting from commentary made in respect of other third country frameworks as they construct their own regime.
THE CAYMAN ISLANDS IN FOCUS
ESMA advised the EU Institutions that, whilst nothing negative was noted by ESMA in its assessment of the Cayman Islands, it was not able to provide definitive advice regarding the criteria of investor protection, effectiveness of enforcement and the monitoring of systemic risk in the Cayman Islands. Accordingly, ESMA did not recommend that the AIFMD passport could be extended to the Cayman Islands at this stage.
The reasons for ESMA’s decision were as follows:
1. Investor Protection
The Cayman Islands must implement legislative changes completing the establishment of two new optional, AIFMD-consistent regulatory regimes for non-EU AIFM who wish to market their AIF in the EU. ESMA was provided with draft legislation during its assessment and noted the consistency of the proposed regimes with the AIFMD framework in the advice. However, ESMA deferred its decision on the investor protection criterion until it has reviewed the final, published laws and associated secondary legislation.
2. Effectiveness of Enforcement
ESMA was unable to advise the EU regarding the effectiveness of enforcement in the Cayman Islands for two reasons:-
(a) Firstly, the Cayman Islands must adopt legislation currently under preparation which will provide the Cayman Islands Monetary Authority (CIMA) with the power to impose administrative fines for regulatory infractions without judicial recourse. It is anticipated that this legislation will be adopted before the end of 2016.
(b) Secondly, ESMA noted that it was bound to complete its assessment subject to certain time and resourcing constraints leading to its reliance, where available, on the findings of the Financial Sector Assessment Program (FSAP) established by the International Monetary Fund (IMF) and the World Bank. Unfortunately, there is no IMF FSAP on the Cayman Islands, leading to a limited review of this criterion despite significant assistance from CIMA.
3. Systemic Risk Monitoring
ESMA noted that the Cayman Islands has frameworks in place for addressing systemic risks but was unable to provide definitive advice in this regard until Cayman has implemented a macro-prudential policy framework enhancing CIMA’s current systemic risk monitoring. ESMA noted that CIMA is working on this framework, which is anticipated to be in place within 12 to 18 months.
It is clear that the Cayman Islands are moving steadily in the direction which ESMA would like to see and will soon meet the assessment criteria for a passport, should the AIFMD passport regime be extended to third countries. Cayman may, however, have the luxury of time if the EU Institutions decide to wait until there is critical mass in terms of the number of non-EU countries which have received an unqualified favourable decision from ESMA4 before extending the passporting regime to non-EU countries. ESMA also noted that its assessment focussed on regulatory issues and that the EU Institutions may wish to consider additional factors before exercising their discretion to extend passporting, including fiscal matters in the non-EU country and the latest intelligence on the anti-money laundering and counter-terrorism financing regime in that country.
Accordingly, with the legislative process underway for the refinement of the regulatory framework in Cayman in line with ESMA’s requirements, we expect ESMA to re-visit its assessment of the Cayman Islands shortly, with a positive advice resulting for Cayman Islands. And in the meantime it will be business as usual for non-EU AIFs and AIFMs, which will continue to use the existing national private placement regimes of the EU member states in which they wish to market, with this facility continuing until at least 2018.
1 The full text of ESMA’s advice can be accessed here.
2 Alternative Investment Fund Managers Directive (2011/61/EU)
3 For a discussion of the positive advice received by each of Guernsey and Jersey, see here
4 ESMA has issued unqualified positive advice in relation to only five of the eighteen third countries assessed to date, namely Canada, Guernsey, Japan, Jersey and Switzerland.