The Swiss private wealth management industry is not usually affected by changes in EU regulation but this could be about to change with the implementation of the European Commission’s proposals in the Alternative Investment Fund Managers Directive.

The Swiss private wealth management industry is not usually affected by changes in EU regulation but this could be about to change with the implementation of the European Commission’s proposals in the Alternative Investment Fund Managers Directive.

The private wealth management industry in Switzerland is dominated by a small number of large global institutions and a layer of mid-tier banks. Beyond this, the market is highly fragmented, with over 1,000 independent advisors serving clients, alongside more than 100 small private banks and family offices. All of which would not usually be set up as EU-regulated entities, but instead operate in the light-touch environment of Swiss self-regulatory organisations and the variations in regulatory supervisory standards between these.

The services provided by the smaller private wealth managers are highly client-specific and based on tailor-made products that are usually in the form of professional alternative fund structures set up by private labelled fund providers or by the entities themselves. These are domiciled in offshore jurisdictions such as Liechtenstein, the Cayman Islands, BVI, Bermuda, Channel Islands, Gibraltar, and Malta.

The position of the private placement regime has yet to be clarified in light of the proposals for the new AIFM Directive but in practice, the directive will effectively curtail the ability of non-EU managers to market alternative funds to European Union-domiciled clients and, where marketing will be allowed, the Directive will impose requirements around equivalence of disclosure and regulatory framework of the fund’s domicile.

While a large proportion of wealth management clients are non-EU domiciled, the number of EU-domiciled clients still represents a sizeable section of the client base of Swiss private wealth managers. The impact of the directive would therefore mean that the sale of products by the Swiss private wealth managers to EU-domiciled clients will no longer be allowed.

This prohibition will most likely have only limited impact on the larger wealth management players as they have an existing pan-European presence, with regulated operations outside of Switzerland in EU jurisdictions from where EU-domiciled clients could be serviced. The larger organisations also can diversify the client offering because of their access to large suites of products that include regulated structures (such as UCITS) that are designed specifically for the different client groups across the European market. The larger groups can also implement a new system relatively easily and these larger firms tend to be familiar with a compliance and disclosure culture.  Compliance with the new directive for the larger managers should therefore not be difficult to achieve.

By contrast, the vast number of small wealth managers in Switzerland would not be able to offer alternatives to their existing EU-domiciled clients to the current products. In addition, this segment of wealth manager may not have the operational set-up or financial flexibility to restructure their businesses and develop a product range to ensure compliance with the new requirements. This will mean that, in practice, the smaller managers may either decide to sever their offerings to EU-domiciled clients, or continue their current practice while facing the risk of legal action in particular in the event of mis-selling.

Given the attention that the alternative investment industry has received from the political world across EU member states during the recent financial crisis, it is unlikely that non-compliance by Swiss-based institutions with the new imposed regulations will be viewed with any leniency.

In order to limit the impact of the AIFM directive, private wealth managers should review their product ranges and structure these along the lines of separate offerings tailored to an EU-domiciled and a non-EU-domiciled audience.

One option available to smaller Swiss wealth managers would be to set up an asset management subsidiary in an EU Member State. This entity would fall within the scope of the AIFM Directive and would need to be separately authorised, but it would then enable marketing of alternative products (regardless of their domicile) to EU-domiciled investors, provided that the marketing activity is undertaken from the EU jurisdiction rather than directly from Switzerland.

Implementation of such set-ups does, however, incur significant additional legal and operational costs and in many instances the fund sizes marketed under such arrangements would not justify the set-up of an EU-authorised operation.

The alternative to setting up an EU-regulated investment management entity would be to develop EU-compatible products. UCITS products for the EU-domiciled market can be an attractive proposition to private wealth managers where the investment strategy and structure of current funds lend themselves to the UCITS model, with the added advantage of the increased distribution channels that UCITS can offer.  

Other regulated products, such as EU-domiciled professional funds, can also offer opportunities as they have limited investment restrictions.  These funds are within the scope of the AIFM Directive but their regulated status and European domicile means marketing will be allowed to EU professional investors.

To manage these products - with the exception of Luxembourg Specialised Investment Funds - it is important that the investment manager is authorised and operating in a regulated environment that is perceived to be equivalent to the EU’s supervisory standards. To this effect, the recent asset manager authorisation framework introduced by the Swiss Financial Market Supervisory Authority (FINMA) offers a simple process - comparable to the UK authorisation model - that offers managers the possibility to launch and operate such products in just such an environment.

This path to market should be viewed seriously by smaller managers as a means of limiting the impact of the new EU regulations should they pass in their current form. Most importantly, these managers have the opportunity to prove they are determined players willing to adapt to an increasingly regulated world.