London Fund Managers See Post-EU Threat to $2 Trillion Business
Fund managers in London have already seen stock-trading upended by Brexit. Now, they worry they could be next.
As the European Union weighs tighter rules on outsourcing key functions such as stock-picking, there’s a risk that management of some assets could be forced out of London, putting another dent in the city’s status as a global financial center. Firms in the U.K. handle about 1.4 trillion pounds ($1.9 trillion) for hedge and mutual funds in the EU’s main hubs of Ireland and Luxembourg — nearly half of all fund money managed in Britain.
The trade deal reached at the end of last year largely ignored financial services, and said nothing about this kind of outsourcing, known as delegation. Curbing this practice would impact the entire fund-management industry, from U.S. giants like BlackRock Inc. to U.K. and European firms such as Schroders Plc and Allianz SE, disrupting their long-standing business model and forcing them to move teams responsible for managing EU funds into the bloc.
Delegation is “the elephant in the room,” said Sonja Laud, chief investment officer at Legal and General Investment Management, the U.K.’s largest fund manager. EU rulemakers have “made very clear that they would like to see the balance shift more toward Europe, and that they’re very keen to strengthen the European asset-management industry.”
The U.K. and the EU have been sparring over delegation since the Brexit vote in 2016. The latest challenge comes as London is already starting to count the cost of leaving the single market, with 6.3 billion euros ($7.7 billion) in daily stock trades moving to EU venues on Jan. 4, the first business day after the transition period.
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The extent of the threat is still unclear. It depends on how far EU regulators go as they consider rule changes for alternative asset managers such as hedge funds as well as for mutual funds. The goal of the European Commission, the bloc’s executive arm, is to prevent the creation of so-called letterbox firms that outsource so much business that that they can’t be effectively supervised or control their own operations.
Fund managers and lobbyists interviewed for this article said they think it’s unlikely the EU will resort to what one hedge fund executive called the nuclear option — forcing portfolio managers to relocate — because the current system benefits both sides. In the EU, delegation has helped tiny Luxembourg become the world’s second-largest fund center after the U.S., and fueled a tripling of assets held in Dublin over the past decade.
Still, the industry is lobbying hard behind the scenes to prevent major changes to EU rules. Fund firms say delegation is crucial to running a global business, allowing them to concentrate portfolio managers not just in London, but in other financial centers such as New York and Tokyo. They say this helps hold down costs, keeps managers close to the markets they invest in and is crucial to recruiting and holding on to top talent.
The industry was caught by surprise in August when the top EU markets regulator called on the commission to consider spelling out the maximum extent of delegation allowed, potentially including a list of functions that can’t be outsourced. The European Securities and Markets Authority also said managers of EU-based funds should be subject to the bloc’s rules regardless of where they’re located.
Many in the industry say the push for stricter rules is political, and that countries led by France are using the issue to angle for a bigger slice of the asset-management business.
“There’s definitely a risk that that political sway may carry,” Jack Inglis, chief executive officer of the London-based Alternative Investment Management Association, said at an event late last year. “By punishing the U.K. you’re actually punishing many, many other countries as well along the way, but that is potentially where the discussions could go.”
Most asset managers have offices set up in the EU, but these tend to handle distribution rather than investment management, Laud said on Bloomberg TV earlier this month.
“There might be a shift there, which obviously would be fundamental because that’s always been the model — that you have your distribution staff in the region, and you have a centralized investment hub in London or New York,” she said.
Since ESMA’s August letter, its top officials have assured the fund industry that they recognize the importance of delegation, and are seeking clarification, not a radical overhaul, of existing rules. Yet a questionnaire on potential rule changes for funds sent out by the European Commission contains questions that reflect ESMA’s concerns, and firms are compiling their responses before the Jan. 29 deadline.
In Brussels, Markus Ferber, a key lawmaker in the European Parliament, said the question of whether the EU will need to tighten delegation rules depends on how far the U.K. departs from the bloc’s standards.
“If everything broadly stays the same, there is less urgency than if the U.K. implements major deviations from the EU’s rulebook,” he said. “It is still a little early for a final judgment, but delegation rules are an area we need to keep an eye on.”
— With assistance by Nishant Kumar, Benjamin Robertson, and Stephanie Bodoni
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