Today is the date when managers of alternative investments such as hedge funds and private equity must have complied with sweeping European Union rules that came into force a year ago.

Today – 22 July – is the date when managers of alternative investments such as hedge funds and private equity must have complied with sweeping European Union rules that came into force a year ago. In the intervening 12 months, the EU has offered firms a year to get in shape. (There are alarming signs of confusion in the industry about what still needs to be done, as shown by this article.) Firms not fully authorised under the Alternative Investment Fund Managers’ Directive could be in for a nasty shock.

As the editor of Compliance Matters, Chris Hamblin, explains here how the AIFMD, which has been brought in to regulate the sector by EU policymakers, is designed to reduce risks in financial markets. Some of those risks came to the fore when markets crashed in 2008, although it is sometimes complained that the regulations go way beyond what is required to deal with a specific set of problems. An important test must always be whether the end-investor is better or worse off in the long run due to such legislation. Chris talks about hedge funds specifically but the term “alternative” covers a wide field. Compliance Matters is a sister publication to this news service. We are keen to receive any comments from readers about how AIFMD is affecting their business and how they intend to react.

The number of managers that have successfully obtained, or are currently applying for, AIFM authorisation, suggest that the industry is prepared for considerable change. At its most basic, the AIFMD hopes to reduce systemic risk and give investors more protection against sharp practice than before, while the European Union hopes to create a more level playing field. It will become clear over time whether these goals are achievable, but we can be certain that firms will find themselves in a new environment once the deadline passes in July. An increase in regulation and the guidelines that precede it bring many considerations to the fore, and will have implications for the hedge fund sector.

At each hedge fund, compliance and risk management staff must analyse their entire operation from a regulatory, legal, compliance, operational and commercial perspective. With the emphasis on change and understanding, as well as implementation, it is apparent that compliance and risk management is set to have a key role in the restructuring of AIFMs.

The most significant insurance change outlined in the directive, as far as compliance and risk management people are concerned, is featured in articles 12 and 15. Article 12 states that AIFMs must hold “own funds” or professional indemnity insurance to cover their professional liabilities. Under Article 15 the cover is required to have an initial term of one year at a minimum, with a notice period for cancellation by insurers of not less than 90 days. It is worth noting that some smaller alternative investment funds, or AIFs, are exempt from such requirements under the AIFMD. These are AIFs with assets under management (including debt or “leverage”) that do not exceed €100 million ($135.2 million), or do not exceed €500 million when the portfolio is not “leveraged”. Smaller AIFs also need have no redemption rights during a period of five years following the date of initial investment to be exempted.

In February this year, the UK's Financial Conduct Authority, the UK regulator, provided “guidance” which described how to value assets under management and announced that it would permit AIFMs to value derivatives positions at market value for the purposes of determining their capital requirements under the directive.

Nobody knows whether the AIFMD will develop into an international brand for alternative investments all over the world, but asset managers are increasingly looking at the opportunities that it can offer in terms of asset-raising through the “professional investor passport” to ensure that they are not left trailing behind their competitors by the end of this year. A fair number of asset managers obtained their AIFM authorisations at the very beginning of the “transitional period”, which ends today.