EUROPE: CESR publishes final guidelines on hedge fund indices for UCITS

Tuesday July 17 2007

CESR adopts common supervisory approaches concerning the classification of hedge fund indices as financial indices for the purposes of the UCITS Directive

CESR has published today its final Level 3 guidelines on the classification of hedge fund indices as financial indices). These guidelines are part of the “CESR’s guidelines concerning eligible assets for investment by UCITS`. These measures address the issue as to whether hedge fund indices could be properly classified as “financial indices” for the purposes of the UCITS Directive.

CESR considers that in order to fall under the classification of a “financial index” as referred to by the UCITS Directive, hedge fund indices must comply with the criteria applicable to common financial indices set out in Article 9 of Directive 2007/16/EC as regards the degree of diversification; the market to which they refer; and the way they are published.

In addition, hedge fund indices will also have to fulfill additional requirements as regards to the methodology of the index and information disclosure:

*The selection of components to be included in the index has to be made on the basis of predetermined rules and objective criteria ;

*The selection of components must not be influenced by any payments made to the provider; and

*The methodology has to ban any “backfilling practice”, (that is to say, any retrospective changes to previously published index values).

In addition, the guidelines require the UCITS to perform an additional “due diligence” process before deciding to invest in hedge fund indices. In particular, in assessing the quality of the index, the UCITS must take into account, as outlined in the guidelines, the following factors (as a minimum):

*the comprehensiveness of the index methodology,

*the availability of information about the index, and

*matters relating to the treatment of index components.

The UCITS must keep a record of its assessment.

These guidelines have been adopted after an intense consultation of the market. They complement the European Commission Eligible Assets Directive and supplement the Level 3 guidelines already adopted by CESR “CESR’s guidelines concerning eligible assets for investment by UCITS”.

CESR’s Level 3 Guidelines can be found at the above link.