Ethics and governance in the European Financial centers

The European Commission yesterday circulated a consultation paper on the UCITS depositary function.

The document formulates 31 questions that are divided into sections:

-          Depositary’s duties – safekeeping duties (questions 1 to 5)

-          Depositary’s duties – Supervisory duties (questions 6 to 9

-          Responsibility regime – Liability regime in case of improper performance (questions 10 to 14)

-          Responsibility regime – Liability regime in case of delegation (questions 15 to 17)

-          Responsibility regime – Default (bankruptcy) (questions 18 to 19)

-          Organisational requirements (questions 20 to 23)

-          Eligible depositary institutions (questions 24 to 26)

-          Supervision issues – Supervision by auditors (question 27)

-          Supervision issues – Supervision by national regulators (questions 28 to 29)

-          Other investors protection issues (questions 30 to 31)

 

In the next days I would like to comment every section.

 

I will begin today with the Depositary’s duties – safekeeping and Supervisory duties sections.

 

The development on the safekeeping duties in the working paper observes that “According to Article 22 of the amended UCITS Directive : “a common fund’s assets must be entrusted to a depositary for safe-keeping”. The UCITS Directive does not define the meaning of “safe-keeping”. At national level, approaches differ as to what exactly a depositary is expected to do when it is entrusted with the task of safe-keeping the funds assets.”

 

 

I am afraid the analysis prior to the questions does not tighten up the ship.

 

As far as the Luxembourg (you know, the jurisdiction that transposed faithfully the UCITS directive) legal and regulatory framework is concerned, it is not a question of divergence of interpretation, but a question of knowingly fallacious transposition.

 

What was enforced in Luxembourg does not comply with the directive: in the implementation of the UCITS directive, Luxembourg clever pragmatic lawyers and professionals removed the safekeeping duties to only state limited supervisory duties, while the UCITS Directive is clearly stating both duties : safekeeping and supervisory duties.

 

Why was the word “safekeeping” removed in the law of transposition (Cf. article 17 of the Luxembourg Law of 20 December 2002) as is in one of the depositary’s duties stated clearly in article 7 of the directive?

What Circular AML 91/75 states emphasizes the issue: The concept of custody used to describe the general mission of the depositary should be understood not in the sense of “safekeeping”, but in the sense of “supervision” as it confirms the drop of the duties of safekeeping.

 

The working paper observes that The UCITS Directive does not define the meaning of “safe-keeping”. If the UCITS directive doesn’t, the dictionary does. So it defines the meaning of "supervision".

  

What circular AML 91/75 states about the supervision (“The depositary has discharged its duty of supervision when it is satisfied from the outset and during the whole of the duration of the contract that the third parties with which the assets of the UCI are on deposit are reputable and competent and have sufficient financial resources“) is not an efficient supervision  as it cannot ensure a critical watching and directing.

  

As far as the word safekeeping is concerned, the dictionary states:

1 : the act or process of preserving in safety

2 : the state of being preserved in safety

 

Preserve means:

1: to keep safe from injury, harm, or destruction : protect

2 a: to keep alive, intact, or free from decay b: maintain

3 a: to keep or save from decomposition b: to can, pickle, or similarly prepare for future use

4: to keep up and reserve for personal or special use

 

Keep means:

(…)

4 a: to retain in one's possession or power <kept the money we found> b: to refrain from granting, giving, or allowing <kept the news back> c: to have in control <keep your temper>

(…)

 

The meaning of "safekeeping" is therefore clear enough and Luxembourg was not allowed to change the duties.

 

 

In a nutshell, Luxembourg with its pragmatic lawyers and professionals not only dropped the duties of safekeeping that was clearly stated in the directive but formulated the duties of supervision in a way that did not comply with the common meaning of the word supervision.

 

That is the reason why the communication about the “faithful transposition” of the directive (see what stated the ALFI before the EFAMA late January 2009) is not acceptable as it is a huge breach in the confidence in UCITS funds so is the recent EFAMA support to the jurisdiction.