Assets or liabilities? Custodian risk in the new paradigm

Abstract

The Alternative Investment Fund Management Directive was passed by the European Parliament in July 2011 and will become law by the end of 2013. The European Securities and Markets Authority issued its Level 2 Implementation Measures Consultation Paper recently to provide detailed clarification around more difficult concepts. Designed to regulate hedge and private equity funds, it encompasses any non-UCITS fund (bar some exceptions). At its heart is the need for every fund sold into Europe after 2018 to appoint a depositary (similar to, but not the same as, a UK trustee) which will bear fiduciary responsibility. This is a new phenomenon to alternatives and no-one yet has a clear idea of how it will operate or what the cost will be. What is known is the depositary will carry an obligation to investors to replace assets held in a securities account that are lost, with a legal onus to prove that it took every possible course of action to avoid loss if it wishes to avoid liability. The deep-pockets principle springs to mind. This, together with other onerous oversight responsibilities, is a long way from industry practice. The paper explores the potential impact of a depositary liability too strict for industry participants.