ELTIFs time to shine?
14 December 2023
Law firms in Luxembourg’s financial centre are seeing a growing number of requests relating to ELTIF investment products. Already observed in 2022, it has reached a more rapid clip following the amendment to the European regulations that came into force in March 2023 and will apply from 10 January 2024. ELTIF 2.0 will then take over, with a new set of operating rules more aligned with the needs of both investors and asset managers. The question that remains is what role this will play in opening up the EU’s capital markets.
ELTIFs were born out of the EU’s desire to see more private savings flow into long-term investment funds that are designed to finance Europe’s real economy. The results, however, have been disappointing. “ELTIFs were the first products in the alternative investment sector that offer a European passport aimed at retail investors. It’s an important departure from the original concept at the AIFMD level,” observes Olivia Moessner, partner at Elvinger Hoss Prussen. “Nonetheless, to truly make these products available to retail investors required dismantling the barriers that were introduced in the 2015 legislation.”
To truly make these products available to retail investors required dismantling the barriers that were introduced in the 2015 legislation.
The first obstacle removed in order to encourage more interest in the product among retail investors was the need to assess the minimum investment threshold of 10,000 euros, which has disappeared. This effectively restricted access to Eltifs to wealthy private investors. The obligation for the manager to give investment advice to non-professional investors has also disappeared. “A suitability assessment test in accordance with MIFID rules remains mandatory,” says Moessner, “but if it is negative, the client can still proceed with the investment by signing a written consent form.”
We should see greater latitude for redemptions, even if ELTIF 2.0 would require the application of a lock-up or minimum holding period.
Secondly, to reassure retail investors that they will be able to recover their investment, some ELTIF products will include redemption options before the end of the fund’s lifetime. To facilitate this, the minimum target for investments into illiquid assets has been lowered from 70% to 55%, which means that funds can, with view to creating a liquidity pocket, invest the remaining assets into assets eligible for UCITS funds. However, certain conditions with respect to redemption options have yet to be specified. “The redemption policy of ELTIF 2.0 is still an open point that ESMA will need to clarify via the Regulatory Technical Standards,” say Marc Meyers and Sebastiaan Hooghiemstra of Loyens & Loeff, “however we should see greater latitude for redemptions, even if ELTIF 2.0 would require the application of a lock-up or minimum holding period.”
For asset managers, the broadening of the definition of “real asset” will come as a relief. From the onset the aim of these funds have been to invest in the real economy via unlisted assets or by financing small and medium-sized enterprises, however the legislator imposed a strict definition on real assets, limiting investment choices. The prior regulation also required that investments are directed towards long-term projects with a minimum amount of €10 million and that they ensure “smart, sustainable and inclusive” growth. These requirements are a thing of the past and the maximum market capitalisation to qualify as a listed small or medium-sized enterprise has been increased from €500 million to €1.5 billion.
Marc Meyers and Sebastiaan Hooghiemstra of Loyens & Loeff
Another critical advance relates to fund set up, where the manager is no longer obligated to select only Europe-based projects. Finally, each investment in an ELTIF retail-oriented product will have a maximum weighting of 20% of total assets, compared to the 10% limit imposed by the previous regulation.
Despite the simplification of the rules relating to ELTIF structures, the democratisation of the alternatives sector forces fund managers to confront a notable issue: onboarding (AML, KYC, suitability testing) of a multitude of smaller retail investors. These operations will require additional manpower and, therefore, costs. “Most will take advantage of technological developments and new digital platforms that act as intermediaries between investors and the fund manager to take on these tasks,” say Meyers and Hooghiemstra. “They also act as marketplaces, targeting potential investors and putting them in touch with fund managers.”
According to the latest ESMA statistics, there are currently 95 ELTIF products in Europe. Of these, 59 are registered in Luxembourg. In a recent report, Scope Fund Analysis notes that several management companies planning to distribute ELTIF funds to retail clients in Europe are already in the process of registering them with the Luxembourg regulators. “Luxembourg’s structuring toolbox is invaluable for fund managers looking to create ELTIFs,” comments Moessner. “Luxembourg also has considerable cross-border distribution capacity, that plays a key role for a product like the ELTIF.”
Olivia Moessner, partner at Elvinger Hoss Prussen.
Will 2024 become the year of the ELTIF? Asset managers wait with bated breath for decisions from ESMA on redemption rules, liquidity management, and criteria for liquidity pockets. Nonetheless they see the possibilities fo ELTIFs, including attracting new capital to alternative investment funds and supporting the progress of the Capital Markets Union. The EU has, in fact, already made moves in this respect asking Member States to grant ELTIF funds attractive tax treatment. “The recently adopted law aiming to improve and modernise the legal and regulatory framework applicable to investment funds provides for an exemption from subscription tax for RAIFs, SIFs and Part II UCIs organised as ELTIFs,” highlight Meyers and Hooghiemstra.
With much more flexible rules than the first version, ELTIF 2.0 should logically be able to attract a share of the enormous amount of savings accumulated by European households, channeling them into long-term investments in the real economy, particularly infrastructure projects. The European passport that the label grants should also give a boost to the Capital Markets Union by promoting savings beyond national borders. For ELTIF 2.0 to be a success, we can only hope that the momentum is not lost now that interest rates have risen sharply, making low-risk products more attractive once again.