The word that is on everyone’s lips at the moment is inflation. Its effects are widespread and pernicious: a higher cost of living, a lower purchasing power and decisions by central banks to increase interest rates. Savers are wondering how to avoid having their money wiped out by inflation, and small-ticket investors are choosing to sit on their funds. Relief might soon come in the form of an opening up of private equity funds and alternative investments to retail investors.
Private equity has long been reserved for institutional investors and wealthy individuals. Entry tickets often start in the millions of euros, and low liquidity means capital is tied up for a prohibitively long time, with the life of a fund often lasting five or ten years. However, there has been growing demand from retail investors to take advantage of this asset class. Not only does it offer high returns (and high risks), but it allows investors to get involved in impact investing, helping to support companies that prioritize ESG goals or technological innovation, for example.
The 2015 ELTIF regulation
The European Council tried to address this growing demand for a more accessible private equity industry in 2015 by implementing the European Long-Term Investment Fund (ELTIF) regulation. The idea was to drastically lower the entry price from several millions of euros to €10,000, while also ensuring that retail investors would enjoy certain protections. As well-meaning as the regulation was, it failed to result in a substantial increase in ELTIFs, largely because the constraints were too tight.
New ELTIFs will aim to protect retail investors but grant access to private equity funds.
To respond to the inertness, this year the European Council moved to improve the ELTIF regulation. The Council’s priorities are to alleviate constraints around portfolio compositions and remove the €10,000 investment threshold while maintaining investor protections. A provisional agreement with the European Parliament was reached on September 19 and, following revisions, the finalised text will likely be submitted before the year’s end, meaning we could see the changes implemented by early 2023.
Second time’s a charm
Retail investors will, at long last, be able to gain access to what has been until now a restricted asset class, allowing them greater diversification in their portfolios and the potential for returns that might beat inflation rates. The changes will also be welcome in the private equity and alternative industrie as they will have a new class of investors. For national governments, improved ELTIFs will result in funds currently held in savings accounts being injected back into the real economy where they will help to build new companies. With new opportunities for high returns come risks, of course, because as they say in finance, there is no free lunch. Just as you might get high returns, you might find a negative return. As with all portfolios, diversification is always the smart choice.
While the private equity industry is looking favorably upon the improved ELTIF regulation, it is recognised that an opening of funds to retail investors will come with added burdens, both on the regulatory and the administrative sides. Investors’ data will have to be compiled and safeguarded for due diligence and KYC. Also, technology will have to be leveraged to keep up with increased requirements for reporting, transparency, and information for tax declarations, which could pose a challenge.
With more small-ticket investors, so too will administrative and KYC burdens increase.
Luxembourg will certainly be an early adopter of the improved ELTIFs. We can be sure that as soon as the new regulation comes into effect, the local ecosystem will create ELTIFs, put them on the market and service them. We are already the biggest hub for cross-border fund distribution in the world, and we have a highly developed and robust ecosystem of lawyers, auditors, fund administrators, directors, tax advisors, and so on. This ecosystem is always at the forefront of new regulation and will be with ELTIFs, much as it was with SIFs, RAIFs, and SICARs.
Just as Luxembourg is ready, so is BDO. We have a highly qualified and experienced team which enables us to provide full-fledged services in fund administration to our clients in the alternative investment space and accompany them through the ever-evolving environment.
To learn more about BDO’s range of services, visit: www.BDO.lu