ESMA Suggests EU-wide Rules for Loan Originating Funds

On April 12, 2016, ESMA published an opinion calling for harmonized EU rules for loan originating alternative investment funds (“LO-AIFs”). Background for the opinion is the Action Plan on Building a Capital Markets Union according to which the Commission is in the process of assessing the need for a uniform EU framework for LO-AIFs. With respect to some elements of the framework for LO-AIFs, ESMA already formed a view while with respect to others it suggests further analysis.

ESMA’s view on necessary elements of EU framework:

• LO-AIFs should be closed-ended funds
• LO-AIFs should not be allowed to have liabilities with shorter maturities than the loans granted; maturities of the loans should not exceed the remaining lifespan of the fund
• Only suitable investors should be permitted to invest (most likely professional investors)
• Organizational requirements should apply including risk appetite statement, risk management, governance, credit monitoring, collateral management, expertise of staff
• Leverage limits, liquidity requirements and regular stress testing should apply
• LO-AIFs should not be permitted to engage in short-selling, securities financing transactions and derivatives (except for hedging purposes)
• LO-AIFs should not be permitted to grant loans to individuals, financial institutions, collective investment schemes, related parties

ESMA’s suggestions for issues to be further analyzed:

• Whether LO-AIFs should be subject to authorization requirement
• Whether managers of LO-AIFs should be subject to authorization requirement or whether registration should suffice (and whether requirements exceeding AIFMD should apply)
• Whether the scope of fund operations should be limited to loan originating activities
• Whether LO-AIFs in terms of borrowing should rely on financing by banks only
• Whether minimum diversification and additional reporting requirements should apply

Takeaways and next steps

• The opinion is a strong indication that uniform EU rules for LO-AIFs are likely to come and gives a first glimpse of what the framework may look like
• Market participants should look out for the consultation (planned for Q2 2016)
• For the time being, the national regimes remain in place. See our Alert Memorandum “Direct Lending in Europe: Recent Developments” dated February 22, 2016
• The ESMA Opinion contains a helpful overview of the national regimes (see “Annex – Mapping on national practices as to loan origination by funds” to the ESMA Opinion)

Please click here to read Cleary Gottlieb’s alert memorandum on “Direct Lending in Europe: Recent Developments” dated February 22, 2016.