Are Hedge-Fund UCITS the Cure-All?

Are Hedge-Fund UCITS the Cure-All? — March 2010

3. Structuring HF Strategies as UCITS

For Event-Driven strategies, too, short positions must be built synthetically.

the current French regulated framework, which is very close to the proposed UCITS regulation (Type 2 French FCP, with exposure measured by reference to a VaR model) offers sufficient room for absolute return strategies with controlled volatility. This is true for long/short European equity, and high yield or emerging market bonds credit/ rates arbitrage, where the liquidity/volatility combination is particularly attractive. For less liquid strategies or those requiring much more leverage, the UCITS framework may be restrictive, even more so for high risk/high return proposals”. 3.2.3 Cost Problems for Hedge Fund UCITS From a qualitative standpoint, all comments seem to point towards the higher costs of the UCITS model. As one respondent notes: “UCITS attempt to reduce some of the risks

Overall, Event-Driven strategies must probably change more than any other class of hedge fund strategy to comply with UCITS requirements. Hedge funds such as York, which have set up UCITS III funds with a strategy inspired by the original hedge fund, show the strategies that needed to be altered. Finally, for all UCITS strategies, variable or performance fees are allowed by the UCITS directive.

Figure 25 provides a visual summary of the current subsection.

A related summary is provided by a respondent: “I have experienced that

Figure 25: Summary of problems faced in the main classes of hedge fund strategies Tactical asset allocation, Equity Long/Short, and Multi-Strategies can be structured as UCITS. Tactical style VaR measures, however, can be unstable, and Equity Long/Short requires shorting via perhaps costlier synthetic instruments. Event-Driven requires the most profound modification and the strongest depositary controls. Relative Value, especially fixed income, may need to reduce leverage or alter strategies to comply with limits on concentration risk. Finally, Funds of Funds will have to rely on performance swaps or other derivative instruments, which will alter non-indexed strategies. Type of style Name of strategy Easily structured as UCITS? Excluded Changes needed Issues Tactical CTA, Global Macro Yes: most funds invest on indices Old-fashion pure commodity (Possibly leverage) VaR reliability Equity Long/Short Yes Specialised concentrated funds Short synthetically Cost of shorting Event Driven Distressed; Merger Arb., Event-Driven Yes with adaptations Distressed Liquidity and concentration

Depositary controls, due diligence and safe keeping

Convertible and other firms' instruments

Harder to short non-stock firm securities

Specialised, concentrated "capital" arbitrage

Short synthetically

Costs, concentration, and depositary controls

Relative-Value Arbitrage

Fixed Inc., Equity Market Neutral

High concentration and low VaR happens

Short synthetically. (Possibly leverage) FoHF: use of swaps (max. 30% direct investment in other funds)

Depositary control of concentration limits Depositary problems for direct investment in HFs

Yes

Funds of Funds and Multi-Strategy Funds

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