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Regulation: Ucits III has managers scratching their heads

Funds are still unsure what use they can make of derivatives.

With just over 12 months to go until EU-based Undertakings for Collective Investment of Transferable Securities funds need to be compliant with the new Ucits III regulations, the fund industry is still unsure what use it can make of derivatives and structured products.

Ucits funds can be marketed to investors in EU countries other than those in which they are domiciled. Ucits III aims to give Ucits funds more flexibility by letting them use instruments like bank deposits, units of other funds and derivatives. It says that fund managers “must employ a process for accurate and independent assessment of the value of OTC derivative instruments” and tell their regulator how they calculate the risks associated with derivatives transactions in each managed Ucits. Back in April 2004, the European Commission recommended that the total exposure of a Ucits to derivatives, calculated according to the value of underlying assets, counterparty risk, liquidity and future market movements, should not exceed its net asset value.

“It is clear that under Ucits III you can use derivatives not just for efficient portfolio management but for your investment strategy,” says Jonathan Herbst, a partner in the financial services group at law firm Norton Rose.

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