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The UCITS IV Directive introduces the key investor information document ("KII"), which reflects the most prescriptive piece of UCITS legislation emanating from the EU. Whilst the idea for the KII was generated some five years ago, the intervening financial crisis has resulted in its aims of delivering transparency and true comparability of UCITS funds resonating with EU and non-EU regulators alike.

Within the EU, national regulators are examining the EU provisions prescribing the distribution of the KII prior to an investor subscribing for shares in a UCITS fund. This article focuses on those EU requirements and comments on the approach being taken by regulators in the principal fund jurisdictions of both Europe and Asia, namely, the UK, Ireland, Luxembourg, Hong Kong and Singapore.

Background

Among the key provisions of the UCITS IV Directive is the replacement of the simplified prospectus ("SP") by the key investor information document. The KII is a short, uniform, pre-contractual document aimed at communicating the essential elements of a UCITS fund to investors, enhancing transparency and allowing direct comparisons to be easily made between UCITS funds and between sub-funds or share classes of the same UCITS fund.

The KII will replace the SP introduced pursuant to the UCITS III Directive. Since its inception, it has become clear that the SP has not fulfilled its intended purpose for various reasons, including:

  • National regulatory practices resulted in certain Member States imposing their own rules on the content requirements of the SP, making comparisons between UCITS funds and between sub-funds or share classes of the same UCITS fund difficult.
  • Disclosure requirements of the SP resulted in UCITS funds with multiple sub-funds and multiple share classes producing lengthy SPs, defeating the purpose of a simplified document.
  • Information in relation to the risks associated with investing in a UCITS fund has not been easily identified in the SP.
  • The requirement for a total expense ratio is problematic as the methodology used requires validation by a UCITS fund's auditors that can delay the drafting/updating of the SP.

Features of the KII

The KII seeks to address the shortcomings of the SP by providing a meaningful, user-friendly and comparative document for investors. The UCITS IV Directive and its implementing measures specify the main principles to be followed in preparing the KII, including requirements concerning its language and layout and the main information to be disclosed. To support this, the Committee of European Securities Regulators ("CESR") has undertaken significant industry consultation and has provided guidance on, inter alia, clear language and layout of the KII, the transition from SP to KII, and a KII template.

The KII must be provided to investors "in good time" before their proposed subscription to a UCITS fund. The KII constitutes pre-contractual information for which the management company/self-managed investment company is responsible and liable. The KII should be kept up to date and should be reviewed and revised as appropriate, and in any event, at least once every 12 months (as past performance needs to be updated annually). The KII must be made available no later than 35 business days after 31 December. As a matter of good practice, the KII should be reviewed before the management company/self-managed investment company enters into any initiative that is likely to result in a significant number of new investors. If changes are being made to a UCITS fund's prospectus or its constitutional document, the updated KII must be made available before the change comes into effect.

Language and Layout

The KII should be written in plain language, avoiding technical terms and jargon.

The KII must focus on the key information needed, and likely to be understood, by retail investors.

The language used must be fair, clear and not misleading and must be consistent with the relevant parts of the prospectus.

The KII must not exceed two pages of A4 sized paper when printed (three for structured UCITS funds). It must be easy to read using characters of adequate size. CESR recommends a 10 or 11 point type and sentences no longer than 25 words.

Colour can be used; however, the KII must be comprehensible when printed or photocopied in black and white.

Branding can be used; however, it must not distract the investor or obscure the text.

The KII must be issued in the official language of its host Member State (or a language approved by that Member State's competent authorities).

Cross-references to a website, the prospectus or other sources are permitted; however, the fundamental information necessary for informed investment must be stand alone.

Headers and footers are not permitted.

Single and two column layouts are permitted.

The KII may be offered to investors in a durable medium other than paper or by means of a website, subject to certain criteria. A paper copy shall be delivered to investors free of charge upon request. The KII must also be available on the website of a UCITS fund or its management company/self-managed investment company.

Information to Be Disclosed in the KII

The content of each KII will have a common running order with identical headings. Investors will benefit from this harmonised regime as the information in relation to investment opportunities across the UCITS market will be consistent and comparable.

1. Title "Key Investor Information" followed by an explanatory statement

2. Name of the UCITS fund (including its subfunds, share classes and investment management company)

3. Objectives and Investment Policy

4. Risk and Reward Profile

5. Charges

6. Past Performance

7. Practical Information

8. Authorisation details of the UCITS fund

9. Date of publication of the KII

There is no flexibility permitted in the order of the

content of the KII.

Types of KII

Multiple sub-funds.

Where an umbrella UCITS consists of two or more sub-funds, a separate KII must be produced for each sub-fund.

Multiple share classes.

Where a UCITS fund consists of more than one share class, a single share class KII, a multi-share class KII or a representative share class KII may be produced, provided the document does not exceed two pages of A4 sized paper (three for structured UCITS funds). Where a representative share class is used, the class selected must be fair, clear and not misleading to investors in the other share classes. Also, reference to the fact that a representative share class is used should be included in the "Practical Information" section only.

Main Content of the KII

Objectives and Investment Policy

The KII must describe the essential features of a UCITS fund, including the main categories of eligible financial instruments in which it will invest, with reference to any particular geographic, industrial or other market sector targets. Where benchmarks are used, they must be described. This section must disclose whether dividend income is distributed or reinvested and state that investors may redeem on demand, together with an indication of dealing frequency. This replaces the distribution section in the SP. Minimum holding periods, if any, also must be disclosed.

Risk and Reward

The KII must set out the risk and reward profile of a UCITS fund by way of a synthetic indicator presented on a numerical scale, with the UCITS fund assigned to one of the categories of risk. CESR has recommended that the UCITS fund be ranked over a scale of 1 to 7 according to its volatility.

The European Securities and Markets Authority ("ESMA") (the body that will replace CESR in 2011) will develop binding technical standards in relation to the methodology to be used to calculate volatility. The synthetic indicator must be supplemented by a narrative explanation of the indicator and its limitations. Appropriate guidance and warnings must also be set out in relation to the risks that are materially relevant to a UCITS fund and not captured by the synthetic indicator.

Charges

The KII must set out a UCITS fund's charges in a prescribed table, together with a brief narrative explanation. The table outlines the maximum subscription and redemption charges payable by investors as well as a single "ongoing charges" figure representing all charges taken from a UCITS fund over a year and based on the figures for the preceding year. If no charge is applied, the table should indicate "not applicable". Any further charges taken from a UCITS fund under specific conditions (for example, performance fees or switching fees) must also be disclosed. For new UCITS funds, the "ongoing charges" may be estimated. Unlike the SP, there are no requirements to include a total expense ratio and a portfolio turnover rate in the KII.

 

Challenges

Size: may be difficult to capture all essential elements of a complex UCITS on two pages of A4 paper (three pages for structured UCITS funds).

Plain language: may be difficult to describe sophisticated investment policies adequately using plain language and no technical terms.

Costs: allowances for initial costs and ongoing review/compliance costs will need to be made; however, use of a durable medium or website may help reduce these.

Resources: allowances for additional human and technological resources will need to be made.

Ongoing monitoring and compliance: input from key areas of business will be necessary.

Translation: text can increase by up to 30%. Consideration should be given to using service providers who specialise in financial services translations and providing them with multilingual reference materials, such as glossaries and style guides.

Certainty of transition period: since timing can be determined by each Member State, there is no guarantee that the full transition period will be adhered to.

Distribution infrastructure: consideration should be given to whether existing distribution procedures for the offering of SPs should be mirrored or changed.

Past Performance

The KII must contain information about a UCITS fund's performance for the past ten years, presented in a bar chart on a calendar year basis (including the performance of a benchmark, if referred to in the "Objectives and Investment Policy" section). In circumstances where a UCITS fund has a track record of less than five complete calendar years, a bar chart covering only the last five years must be used (the years for which data is unavailable should be left blank). For a UCITS fund with a track record of less than one year, a statement must be included explaining that there is insufficient data to provide a useful past performance indication to investors. Past performance figures must be rounded to one decimal place and the size of the bar chart should not exceed a half page in length.

A simulated past performance may be permitted in certain circumstances, provided it is fair, clear and not misleading. In such cases, there must be a prominent disclosure in the bar chart that the performance has been simulated.

Practical Information

The KII must set out information regarding the UCITS fund's custodian, where and how investors can obtain further information about the UCITS fund and its subfunds and share classes and where to obtain the latest price information. The KII must also include: information regarding any switching rights between sub-funds; a common declaration of the existence of other share classes with cross reference to the prospectus; disclosure regarding the representative share class, if any; a disclosure that the tax legislation of the UCITS host's Member State may impact investors; and a statement that the management company/self-managed investment company may be held liable for information in the KII that is misleading, inaccurate or inconsistent with the prospectus.

Implementation

Management companies/self-managed investment companies need to prepare for the implementation of the KII as soon as possible. Additional resources may be necessary, although some smaller companies may choose to outsource the KII function. Management companies/self-managed investment companies should ensure the involvement of all key areas of the business so as to complete all of the information necessary for each KII. In addition, significant investment will be needed on an ongoing basis to ensure that each KII produced is current and up to date.

From SP to KII: Transition

SP can be used up to 30 June 2012 if permitted by the national laws and regulations of the respective Member States.

New UCITS funds authorised after 30 June 2011 must publish a KII.

Existing UCITS funds launching new sub-funds during transition can choose SP or KII.

Existing UCITS funds adding new share classes during transition can choose SP or KII (provided a consistent approach is taken).

Cross-border marketing can use SP or KII (provided a consistent approach is taken).

UK, Ireland and Luxembourg

The UCITS IV legislation has yet to be transposed into the national legal systems of Member States and national regulators have yet to publish guidance on how the KII will be implemented. However, it is expected that the EU rules outlined herein will be implemented in the legal systems of the UK, Ireland and Luxembourg in full, with relatively minor national variations relating to timing of transition and accommodation of local marketing practices. This is consistent with the aim of having a standard UCITS funds' pre-subscription disclosure document, thereby moving closer to a single market across all Member States.

Singapore

On 21 October 2010, the Monetary Authority of Singapore ("MAS") issued Guidelines ("Guidelines") on the Product Highlights Sheets ("PHS"). The Guidelines will apply from 1 March 2011 to all funds registered for retail distribution in Singapore, and set out three different PHS templates that serve as the minimum standard—in relation to (i) unlisted debentures in the form of asset-backed securities and structured notes, (ii) exchange-traded funds and notes and (iii) unlisted collective investment schemes.

The PHS must be written in plain language in a "Q&A" format prescribed by the MAS and should describe, among other things: the product's permissible portfolio investments; the profile of customers for which the product is suitable; and the likely risk areas that could cause a customer to incur a loss. Issuers should include any additional key information that is necessary for investors to understand the product (and should not merely make reference to information in other sources, such as the prospectus). The PHS cannot contain any information that is not included in the prospectus or any false or misleading information. In the case of a collective investment scheme, where multiple sub-funds are covered in a single prospectus, a separate PHS should be prepared for each sub-fund.

The PHS should not exceed four pages and may include diagrams, corporate logos and a glossary of technical terms, if appropriate. Issuers are encouraged to include links to online copies of disclosure documents, educational resources or explanatory material.

Similar to the KII for European jurisdictions, the PHS must be provided to investors together with the prospectus, before the sale of an investment product. As things currently stand, from July 2011, a KII will be distributed together with a PHS when a registered fund is promoted to retail investors in Singapore.

Hong Kong

In line with global trends emanating from other jurisdictions, and its general enhanced risk disclosure regime, the Hong Kong Securities and Futures Commission ("SFC") introduced the requirement for a Product Key Facts Statement ("Product KFS") disclosure document in June of this year.

The Product KFS is intended to be a summary of the key features (and, in particular, the key risks) of the relevant fund, set out in plain language. The SFC's intention is that the Product KFS of every SFC-authorized fund should look very similar in terms of layout and sub-headings, so as to facilitate reference and comparison by the retail investor. To this end, the SFC has provided, on its website, illustrative templates of the Product KFS for six types of investment products (i.e., guaranteed funds, exchange-traded funds, index funds, investment-linked assurance funds, unlisted structured investment products and general funds). It will shortly be introducing two additional templates— one for synthetic exchange-traded funds and the other for RMB bond funds, both of which have proven, in the recent past, to be very popular retail investment products. For further information regarding the Product KFS requirements, please refer to "Retail Fund Authorization In Hong Kong: The Moving Goalposts," available at http://www.dechert.com/library/Financial_Services_Report_09-10(asia).pdf .

The SFC has, thus far, adopted an extremely hands-on approach to finalizing/approving the language of, and disclosure in, each Product KFS that has come onto the market. It should be noted that, to date, only equity and bond funds have been authorized with Product KFS.

Strengths of the KII

Plain language: easy to read and understand.

Transparent: has no hidden features.

Uniform: easy to compare UCITS funds and sub funds or share classes of the same UCITS fund.

Facts: contains essential information only.

No alternative fund (i.e., hedge fund, exchange-traded fund or managed futures fund) has yet to issue a Product KFS. Industry groups in Hong Kong had lobbied the SFC to consider an arrangement whereby the KII might be accepted as a fund's summary document in place of a Product KFS. However, given that the SFC has indicated that it does not believe that risk-rating should be reflected in the offering documents of an investment product, it is not surprising that this lobbying movement did not find favour with the SFC, and it may be unlikely to do so in the future. As things currently stand therefore, from July 2011, a UCITS that is authorized in Hong Kong will be required to distribute both a KII and a Product KFS when it is promoted to Hong Kong retail investors.

Communication and Coordination Among National Regulators

Although a number of jurisdictions have been introducing very similar concepts of additional summary disclosure documents, it is not clear whether there has been the appropriate degree of inter-regulator communication and coordination. In particular, funds with cross-border registrations would have more than a passing interest in having streamlined documentation that, ideally, may be used in more than one jurisdiction.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.