Private funds regulatory update

27 July 2021

In our last quarterly private funds regulatory update, we surveyed the huge changes that managers have been forced to navigate in the new year: the ongoing policy response to Covid-19, the EU/UK Trade and Cooperation Agreement, and the fall-out from Brexit that is driving both protectionism and a pro-competitive push on both sides.

As we reach the year’s mid-point, regulation has moved beyond the frantic response to these events. So, it compels us to ask, what are the longer-term implications? What should the private funds industry expect in the coming years?

We also review two of the big trends that are gathering in pace and that will introduce substantial change in the coming years; namely, the next wave of ESG regulations, and the drive to “retailisation” or the democratisation of private investment.

Finally, this update has pieces highlighting two new sets of rules that are relevant to private fund managers. First, the EU’s new cross-border fund marketing rules which are due to take effect in August. Second, the FCA’s proposed new and wide-ranging Consumer Duty.

Pandemic and politics

The UK’s planned end of lockdown has been pushed into Q3, and the social and economic effects of the pandemic persist. However, the supervisory response is beginning to recede. For instance, some of the FCA’s flexibility in respect of requirements such as complaints handling is ending.

The EU and UK reached agreement on the draft Memorandum of Understanding (MoU) on financial services regulation. As we predicted in the last edition, the MoU outlines an institutional arrangement for ongoing dialogue. It does not contain any commitment to mutual equivalence, nor does it compel the parties to reach any such agreement.

It is still possible that equivalence might be agreed in some areas, but the EU has decreasing incentive to do so. The UK is tentatively edging towards greater regulatory divergence. The country’s approach at this stage has been to pursue broad alignment with EU legislation, while seeking incremental improvements in respect of certain requirements. This approach can be expected to accelerate if equivalence decisions are not forthcoming and, more so, if the EU pursues protectionist measures such as tightening of the delegation of portfolio management.

Meanwhile, the industry is learning to live with the current arrangements. In this Update, we have a piece on MiFID-related models for marketing into the EU after Brexit. Such models are coming under increasing regulatory scrutiny.

Reform agenda

Despite the tightening in cross-border relations, both jurisdictions intend to pursue an ambitious regulatory reform programme.

The European Commission (EC) is expected to propose changes to the AIFMD this year. The general sense is that the review might propose a few targeted improvements, but that the framework generally works well. Controversial requirements such as the remuneration rules are likely to remain, while, as noted above, there will be some tightening of delegation rules.

The second stage of the MiFID II review is due to happen too, following Covid-related reforms to certain investor protection provisions. The EC will look at the markets and trading rules, but also consider the introduction of a new semi-professional investor class, potentially modelled after the German investor classification.

The UK has begun its own review of capital markets regulations. While the Treasury’s review of the UK funds regime is underway, with work moving ahead on asset holding companies and the intention to launch a Long Term Asset Fund (LTAF) by the end of 2021. Finally, the Treasury plans to review retail investor disclosures next year and will make decisions on provisions such as the PRIIPs Key Information Document.

Retailisation and sustainable investing

Retail investors are likely to become more important to private fund managers due to retailisation of private market investments. Macfarlanes responded to the FCA’s recent consultation on the design of the LTAF. The UK Government wants to launch the LTAF by the end of this year. The European Commission is also expected to outline its proposed reforms to the European Long-Term Investment Fund (ELTIF). The question is whether these reforms might make the ELTIF a more attractive vehicle to managers and their investors. We expect to say a lot more about retailisation in our next update.

As noted above, the FCA has proposed a new Consumer Duty. The FCA’s consultation suggests a wide-ranging set of principles, rules, and guidelines that, if they go ahead, could have a significant impact on regulated firms. The Consumer Duty will be most impactful on managers serving retail investors. It could become an important consideration for private fund managers that are considering retailising their investor base.

Finally, ESG remains a hot topic. The first wave of sustainable finance regulations are coming to fruition. So far, asset managers have been treated by policymakers as the tip of the spear, used to channel investment to sustainable aims. The next wave of ESG regulations will focus on the inputs to investment: the ESG data reported by portfolio companies, and the use of ESG scores and ratings for investment. We present a deep dive into the upcoming developments below.


The Investment Firms Prudential Regime (IFPR), another area covered in our update, continues to be the main area of focus of regulatory change. The FCA has issued its second consultation and published draft rules in response to its first consultation (see more below). The IFPR is likely to be a significant area of focus for managers currently classified as BIPRU and Exempt CAD firms with the impact for CPMI Firms perhaps not as significant but worthy of attention nevertheless.

The next wave of sustainable finance regulations

ESG regulations are at apace. The EU’s Sustainable Finance Disclosure Regulation (SFDR) had its first implementation date in March. There are more SFDR deliverables to follow, as well as the implementation of changes to AIFMD, UCITS and MiFID II. The latter reforms will require asset managers to integrate ESG considerations into their business and for advisers to take account of their clients’ ESG preferences. Insurers will be subject to similar requirements. 2022 will be a busy year for asset managers, who have been effectively treated by policymakers as the tip of the spear, expected to drive investment to sustainable aims.

The imposition of these new requirements has brought to light the problem of ESG data. Asset managers rely on good quality ESG information from investee/portfolio companies to be able to integrate ESG considerations into their business. Only with this pipeline of information can managers be expected to comply with their regulatory obligations and to achieve their investors’ ESG wish-lists.

At present, company ESG reporting is voluntary. Consequently, it is often inconsistent and of varying quality. Regulators are concerned to ensure that company information is mandatory, robust, and comparable between companies.

We have seen the following recent developments:

  • the EC has announced its intention to legislate for a Corporate Sustainability Reporting Directive (yet another acronym to remember – and not to confuse with the similarly named CSDR). The proposal is for large companies, both public and private, to disclose comparable information about material ESG considerations. The EC envisages that the reporting will provide managers with the data that they need to comply with the SFDR. It is also proposed that the EU standard will be consistent with global voluntary reporting frameworks (more on which below). The new legislation will replace the Non-Financial Reporting Directive, which provides for voluntary ESG disclosures;
  • the EC is also considering how to regulate ESG scores and ratings. The concern is that some scores are currently based on obscure and possibly questionable methodologies, while ratings providers are not subject to oversight. Many managers also complain that buying ESG data is expensive. The hope is that regulation will bring greater transparency and competition to the ratings market, although ultimately ratings providers are also dependent on company ESG reporting. We took a deeper look at ESMA’s recommendations;
  • in a significant achievement for global cooperation, the G7 economies recently agreed to require their companies to report under the Taskforce for Climate-related Financial Disclosures (TCFD) framework. The UK has begun to roll-out the framework to listed companies and to asset managers, with the publication of two FCA consultations. Currently only Hong Kong has made the TCFD mandatory;
  • the UK is also considering whether and how to implement the EU’s SFDR. It has also established an expert group to consider the UK’s own version of the Green Taxonomy. In the meantime, the FCA is considering ESG regulation and supervision under the three pillars of data, products, and disclosures. Expect legislation and regulations to follow;
  • in the US, the SEC has requested public input on its disclosure framework to take account of ESG considerations. The SEC has also published its first risk alert, detailing good and poor practice in respect of ESG. There is a struggle over ESG at the political level, with some members of Congress arguing that any SEC changes (and particularly alignment with global standards) will require legislation. The expectation is that the SEC will enforce now and regulate later, driving good practice through enforcement actions in relation to its existing disclosure framework and rulebook; and
  • finally, at the global level, five of the largest voluntary standard-setters are collaborating on a single international reporting framework. In addition, the IFRS will create a new Sustainability Standards Board to oversee the global framework. The G7 stated its formal support for these international initiatives.

Evidently there is a lot of regulatory work to be done and a lot of uncertainty. Will there be global

consistency in the different jurisdictions’ reporting frameworks? Which companies will be required to report: public, private, and which sizes? Which information is material and should be disclosed? Is materiality financial and/or inclusive of the company’s wider impacts on the world, and is it static or dynamic? How to protect companies from liability because of the information that they disclose?

Regardless, these initiatives will give substantial impetus to sustainable investment. Although managers can expect to wait at least two years until their ESG data-related headaches begin to be solved.

New marketing rules for private fund sponsors

As many private fund sponsors will be aware, a package of new EU marketing rules comes into force on 2 August 2021. The rules bring in changes across a range of areas, but perhaps of particular importance to private fund sponsors will be the changes to the pre-marketing regime as well as new requirements relating to the content of marketing communications. Summaries of the changes in these two areas are set out below.

1. New pre-marketing rules

  • A new standardised definition of pre-marketing will apply across the EU.
  • Full-scope EU AIFMs will be permitted – subject to certain conditions and obligations – to pre-market their EU AIFs across all 27 EU member states. Although the rules do not use the term, this effectively creates a “pre-marketing passport” for full-scope EU AIFMs.
  • A full-scope EU AIFM that undertakes pre-marketing activities will be prevented from relying on reverse solicitation for a period of 18 months following the start of pre-marketing. The precise scope of this restriction and how it will apply in practice is, unfortunately, not clear.
  • A full-scope EU AIFM may appoint a third party to pre-market on its behalf, but only if that third party is itself an EU-regulated firm (or a tied agent of an EU Mifid firm). This means that a non-EU firm (e.g. a UK firm) cannot be appointed to pre-market an AIF. This restriction will be felt particularly acutely by UK private fund sponsors who act, for example, as investment advisers or delegated portfolio managers with respect to EU AIFs managed by full-scope EU AIFMs.
  • Non-EU firms may, however, be able to provide information to prospective investors where that falls outside the definition of pre-marketing.


While the new rules bring a degree of clarity and standardisation for full-scope EU AIFMs, they do not address the position for non-EU AIFMs (such as UK AIFMs). As a result, non-EU AIFMs wanting to pre-market in the EU will need to analyse the position in each relevant EU member state, to see whether and how they can undertake pre-marketing activities in that member state.

A further complication is that several member states have yet to implement the EU rules into their domestic law, and we understand that in some cases implementation will miss the 2 August deadline.

Sponsors pre-marketing in the EU on or after 2 August should therefore check with the position with their advisers.

2. Summary of new requirements for marketing communications

Full-scope EU AIFMs (as well as EuVECA managers) will be subject to new requirements with respect to their marketing communications. The key requirements are as follows:

  • all marketing communications must be identifiable as such;
  • all marketing communications must describe the risks and rewards of investing in the fund in question in an equally prominent manner; and
  • all information included in a marketing communication must be fair, clear and not misleading.


Unhelpfully, the term “marketing communications” is not defined, but guidance from ESMA suggests that it should not include pre-marketing materials or legal or regulatory information (such as the article 23 pre-investment disclosures). However, it is likely to include the PPM and any other promotional material provided to investors during the marketing phase.

The requirement to include equally prominent descriptions of risks and rewards in every single marketing communication will likely be challenging, at least from an aesthetic and presentational perspective, and it remains to seen whether a market consensus approach will develop in this area.

In principle, the “fair, clear and not misleading” standard should not pose too much of a problem, as sponsors will already be holding themselves to this standard with respect to their PPMs. However, given the potentially broad scope of “marketing communications”, sponsors will need to ensure they meet this standard with respect to all materials provided to investors that could be considered “marketing communications”.

First FCA policy statement on Investment Firms Prudential Regime

On 29 June 2021, the FCA published its first policy statement on the implementation of the Investment Firms Prudential Regime (IFPR) (PS21/6).

As we have noted in past updates, the IFPR is a revised prudential regime for FCA-authorised investment firms that is heavily based on the Investment Firms Regulation ((EU) 2019/2033) (IFR) and the Investment Firms Directive ((EU) 2019/2034) (IFD). The IFPR is expected to take effect on 1 January 2022. The legislative basis for the IFPR is set out in the Financial Services Act 2021 (FS Act) and in statutory instruments to be made under the FS Act. The majority of the rules relating to the IFPR will be set out in a new prudential sourcebook: the Prudential sourcebook for MiFID Investment Firms (MIFIDPRU).

PS21/6 contains the final rules that address, amongst other items:

  • the categorisation of investment firms, identifying the tests for determining whether a firm will be categorised as a "small and non-interconnected investment firm" (SNI Firm)or not. The draft rules contain the quantitative thresholds originally proposed by the FCA. The rulers confirm that, to determine whether or not a firm is an SNI Firm, some thresholds will need to be calculated on a combined, group basis, on- and off-balance sheet total, and the total annual gross revenue;
  • prudential consolidation and the group capital test, which deal with the triggers for prudential consolidation. The rules include amendments to the definitions of "investment firm group" and "consolidated basis" to clarify that an FCA investment firm group consists of a UK parent, its subsidiaries and connected undertakings. PS 21/6 also confirms the guidance on eligibility for the Group Capital Test (GCT) for "sufficiently simple" groups although the "sufficiently simple" concept remains undefined;
  • own funds and own funds requirements, with the rules containing additional detail on the calculation of the amount of capital a firm must hold; and
  • reporting requirements, with the FCA simplifying the process of prudential reporting with the result that there will be a single set of forms for all firms to be submitted on a quarterly basis.

PS21/6 also sets out the FCA's current timetable for the IFPR:

  • a third consultation paper to be published in early Q3 2021. The FCA envisages that it will cover:
    • disclosure;
    • consequential amendments to the Handbook and technical standards relating to the UK CRR;
    • issues relating to the UK implementation of the Bank Recovery and Resolution Directive (2014/59/EU) (BRRD) and the Financial Conglomerates Directive (2002/87/EC) (FICOD); and
    • final application provisions.
  • the policy statement to CP21/7 to be published in early Q3 2021. This will contain a consolidated set of near-final rules, reflecting the overall position adopted by the FCA across the first two consultations; and
  • the policy statement to the third consultation paper to be published in Q4 2021.