Is Malta attracting Hedge Funds?

Published on the Business Today, issue Wednesday, 14 April 2010

It is encouraging to read that Malta Enterprise is active in promoting the island for scores of economic opportunities that are now nascent post the global crisis recovery. This reminds one of the early seventies when the then Prime Minister Dom Mintoff used to be active in pulling favours touring the world and requesting dignatories to invest in Malta. There is ample scope why such trade missions should be intensified. The island can be a pioneer to attract niche markets such as the idea behind the latest trade delegation to the Middle East.

This marked a high-powered mission to the Gulf led by Prime Minister Lawrence Gonzi. Yes, the potential is there and needs to be followed up. Our politicians may be too much inward looking to see the global picture now with all the obligatory and never lasting meetings in Brussels which inevitably saps their energy. There is also so much to do to promote the opportunities in propping up the island as a centre for inward investments such as hedge funds. A lot is being done by private initiatives funded by practitioners but the island needs more high powered delegations spearheaded by its political leaders. So what can be the avenues that mark the entrance to more hedge funds being registered here. First we must be familiar with what makes hedge fund industry tick in competing countries such as London, Dublin and Luxembourg. As a broad statistic Malta boasts of circa 400 sub-funds which is a good start but there is a long way to go.

It only adds up to about one tenth of what Luxembourg hosts so far. The journey to catch up is long and we need not waste any time to make hay while the sun shines ie when other countries are in distress under the negative shadows of scandals such as the Madoff hedge funds and earlier ones such as the 1998 LTCM debacle.  So taking the initiative we need to pack our bags and fly to other venues to promote Malta to investors to lure them to switch their attention and start using the unique regime on offer. Our  level of transparency and ease of regulation can somewhat cool down the current controversy surrounding hedge funds complaining of excessive costs of regulation. In some jurisdictions they are not welcome  and invariably  they are unjustifiably labelled as ‘wide west ‘investment products only fit for high rollers to invest in top risk and even breakneck rewards. There is also the issue of hedge fund fraud; some cite a small example of fraudulent hedge fund managers who have used false reports to deceive investors while they use their assets to pursue other interests. 

Lately there has been a lot of talk following the banking fallout on trying to place some of the blame on hedge funds and thus push for heavier regulation particularly in America. Still hedge funds are growing in popularity and nothing seems to stem their appetite for success particularly in Europe. The accelerated growth of hedge funds comes partly from two reasons; expertise, and superior performance. Hedge fund managers are among some of the brightest the financial services industry had to offer. Of course their success is also attributed to the relative laxity of regulation and the ensuing flexibility that they currently enjoy. They are generally nimble to recognize changing market trends and they try to profit from such developing trends before other mainstream investors see such trends. Will the current trend to inject tougher regulations kill the goose that lays the golden egg? Managers thus contend that excessive doses of regulation is in some sense incompatible with the fundamental role and character of hedge funds. The logical answer is that increased regulation of hedge funds would only destroy or at least reduce the natural setting under which hedge funds prosper . Observers contend that current regulation have served its purpose well, hedge funds are prospering given that current hedge fund assets are in excess of  euro 1,017 billion (US$800 billion).

All this thanks to the dedication and hard work of fund managers and administrators. But the honeymoon will soon be over as a recent survey showed how 99% of hedge fund partners believe that the industry will be more heavily regulated within the near future. This follows naturally the aftermath of the Madoff scandal revealing lax regulations which led to the former chairman of the Nasdaq Stock Market to run a hedge fund that U.S. prosecutors said ended up in over $50 billion of fraudulent losses. Can we blame laxity of hedge funds in general ,or blame regulators insensitivity or shall we say that Madoff was smart enough to dodge regulations and exploited political support in high places. In fact , in the end Madoff told senior employees of his firm that “it’s all just one big lie” and that it was “basically, a giant Ponzi scheme.” So all this and much more has stirred up a hornets nest in both sides of the Atlantic to start the introduction of tighter rules. Whether such new dosage of rules will serve to weed out the miscreants is still in doubt but the E.U has last year finally issued a draft law styled “The Alternative Investment Fund Managers Directive. ( AIFM ) ” Intrinsically this directive issued in haste and amidst a lot of pressure from investors who pleaded with their politicians to speed up some remedy. 

The directive itself is still in draft form and there has been a slow response during the Spanish presidency to trim all the objections and amendments. It aims to force managers of funds based outside the 27-member European Union to ask permission from individual European countries to market themselves to investors rather than being able to treat the bloc as a single market. In theory the directive as proposed by the European Commission tries to harmonise EU regulation of hedge fund managers, private equity funds, and other forms of alternative investment funds. Supporters of the proposed European Union directive on alternative investments say it will put hedge fund, private equity and venture capital industries throughout Europe on an even footing, ensuring better protection for investors on the continent. The Commission has highlighted that recent events illustrate a need for public authorities to ensure effective monitoring of the risks that alternative fund activity may pose.

When enacted this directive will enable Member States to improve the macro-prudential oversight of the sector and to take coordinated action as necessary to ensure the proper functioning of financial markets. The proposal will help to overcome gaps and inconsistencies in existing regulatory frameworks at national level and will provide a secure basis for the development of the internal market. It is not expected to be law before 2011 and of course will be still on the agenda when the Belgian Presidency starts in July 2010.

Its main scope is to capture alternative investment funds (AIF’s) within a wide ranging definition. Thus we read how Article 3 provides that an AIF is any collective investment undertaking (including investment compartments thereof) whose object is the collective investment in assets and which does not require authorisation under the UCITS Directive. This means that a wide range of AIF’ s are potentially captured by the AIFM Directive including hedge funds, private equity funds, commodity funds, real estate funds, debt funds, energy and carbon funds and infrastructure funds. Thus expect a general restriction in that only funds authorised under the directive will be permitted to be offered to European professional investors. In practice this would mean that funds authorised under the directive must be established in Europe so that they can be permitted to market in Europe.

On the positive side ,it provides for a harmonised set of rules as a guide to authorised managers who wish to market their funds to professional investors across Europe. Naturally the single passport system for migration of funds across the E.U facilitates new openings for managers. All this makes for sweet music to Malta ‘s nascent fund industry and one hopes that more practitioners will go forth  to attract inward investment which will certainly be fascinated when hearing the favourable tax regime, excellent level of management and the comparative lower cost of operation.

The opportunity is there,  will we take the challenge?