‘To be, or not to be…’ – Prince Hamlet
While the tragedy of the COVID-19 pandemic dominates the news, the future of the United Kingdom’s relationship with The European Union continues to trundle on in the background. The final Brexit terms will undoubtedly have a profound long-term impact on the UK’s economy, politics and international standing. I am not going to delve into the broader potential here but focus on the what it means for UK based hedge fund managers and specifically regulation.
The UK officially departed from the EU on the 31st January 2020, after a long drawn out political scramble, following the referendum of June 2016. For more on that process I refer you to my previous article: WTF? The UK Regulatory Regime in post Brexit Britain. The withdrawal from the EU was immediate but the parties agreed that a Brexit Transition Period would be implemented. Allowing negotiation of the divorce terms through to 31st December 2020.
It’s All Talk
Since Brexit, the UK and EU have faced the unprecedented coronavirus, including key figures of the negotiations, Michel Barnier, David Frost, and Boris Johnson being struck down by COVID-19. Following the initial face to face meeting in March 2020, the subsequent summits have taken place virtually, in April and May 2020. On the 1st June 2020, the next round of talks will commence, again virtually, which many critics have dubbed an unsatisfactory solution versus face to face.
The reason that this next round of talks is critical is that under the agreed Transition Period, no extension to the negotiations would be allowed after the 30th June 2020. Both sides have already been frustrated by what has been termed feet dragging but the UK prime minister has categorically stated that no extension will be requested by the UK. Whether this is appropriate or not under the specter of a pandemic is not something I wish to discuss here.
So where does this leave the future of regulatory framework in the UK for hedge fund managers? Firstly, it is important to note that up until 31st December 2020, the regulatory regimes that existed pre-Brexit shall remain in place. So through to the end of this year, it is business as usual.
Secondly, as of 1st January 2021, the expectation is that regulatory equivalence will be recognized by both parties. This establishes a mutual understanding that the UK and EU regimes will continue to maintain parallel philosophies, if not full adoption.
Thirdly, under regulatory equivalence, the access for the UK will not be as open as pre-Brexit, with market access for trading limited to certain services and certain types of clients. Until the negotiations are concluded the full impact will not be unknown. It is very unlikely the current passporting facility will remain available.
Risks still remain for hedge fund managers, and the financial sector as a whole, even if after the divorce. The EU have the ability to revoke such a standing with a mere 30 days’ notice. So, without a permanency the ability for hedge fund managers to provide solutions in to Europe could be threatened.
Beyond the political motivation for revoking regulatory equivalence, the EU could be justified to review the scheme in the event that the UK chose to diverge significantly from the existing EU regulatory framework. An action the FCA may take on the grounds of implementing a less hawkish stance on financial practices.
Equally, the EU could continue to extend the existing regulatory framework, requiring further oversight and reporting, requiring the UK to adopt such changes, or again, lose equivalence. Historically, the UK actively led and influenced the EU regulations, a position lost through Brexit.
As I concluded in my previous article, there are measures that a manager can take now, even with the minimal information available today. The most obvious solution would be to ensure a footing either side of the channel, but for many that is neither operationally nor financially viable. Alternatively, one can seek regulatory hosting solutions as a workaround. To take no action at this time is equally warranted but be aware that the distractions from Brexit does not mean it is not In Process. Remain vigilant and monitor developments. The end is nigh.
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Quay Partners Group delivers bespoke investment management solutions to independent hedge fund managers and family offices.
Thomas Underwood, the Founder, has over 20 years’ experience in managing and operating hedge funds.