The statistics clearly show that Luxembourg is the central domiciliation hub in Europe for Alternative Investment Funds, way ahead of Ireland, France, Germany, and even the UK. Indeed, well over 30% of all AIF structures in Europe are domiciled in Luxembourg.
One of the reasons for this, says Dr. Jan Saalfrank, Partner at Pinsent Masons Luxembourg, is that UK and US investors have had an increasing appetite in recent years for parallel fund structures domiciled in a European jurisdiction. “Regulatory constraints, especially for investors, are increasing. They are no longer willing, as they might have been maybe several years ago, to invest in the first place in, for instance, a Cayman based fund structure. As the Financial Action Task Force has made very clear, the island is under increased monitoring regarding strategic deficiencies in its regime to counter money laundering, terrorist financing, and proliferation financing,” says Dr. Saalfrank. So, investors are demanding that promoters and initiators basically have AIF structures in place in jurisdictions which offer legal certainty, legal predictability and which have a decent reputation. “And obviously, Luxembourg is the first port of call for these investors in Europe.”
There has also been a measurable impact from the UK’s withdrawal from the European Union. “Requests from the UK, especially from management companies, to have alternative structures in mainland Europe increased due to the fact that Brexit, especially at the beginning, brought considerable legal uncertainty,” Dr. Saalfrank explains. Luxembourg’s established legal framework provides for this much needed and demanded legal certainty in the long run and enabled potential new investors and even remaining old investors to find hubs for their investments with corresponding fund vehicles domiciled in Luxembourg. “An increasing demand to create additional and new fund vehicles could be observed in the industry well before the actual occurrence of BREXIT.”
“The RAIF offers a very flexible regime, no direct CSSF supervision and thus a comparably short time-to-market, and these are several of the underlying major factors that make the RAIF so popular, especially for US, UK and Asian initiators. They are used to have a quick time to market for their fund vehicles.”
Among AIF vehicles, the Luxembourg market has experienced an ever-increasing demand for the Reserved Alternative Investment Fund (RAIF), launched in 2016. As Dr. Saalfrank points out, the RAIF in comparison to the Specialised Investment Fund (SIF) has a very short time to market and is only indirectly supervised by the financial regulator – RAIFs must appoint a fully authorised external Alternative Investment Fund Manager (AIFM) because the fund itself is not subject to product approval from the Luxembourg regulator, the CSSF. “The RAIF offers a very flexible regime, no direct CSSF supervision and thus a comparably short time-to-market, and these are several of the underlying major factors that make the RAIF so popular, especially for US, UK and Asian initiators. They are used to have a quick time to market for their fund vehicles.”
Dr. Saalfrank acknowledges that the SIF is still a much demanded and a very prominent as well as a very well-known fund vehicle on the market, but says that especially for debt and real estate funds, their number is slowly decreasing according to latest statistics. “The RAIF, and especially also the unregulated special limited partnership (SCSp), have seen a tremendous increase in demand over the last two to three years in the sphere of debt and real estate funds.”
Real estate boom
Indeed, prior to the pandemic and interest rates picking up again in 2022, there was a tremendous demand for real estate related fund vehicles that were acquiring assets. “This was kind of a boom period, I would say, and it was not even diluted in any form by the pandemic. Banks were willing to hand out money at really cheap conditions, and that created a lot of opportunities. And since Asia and especially mainland China was not so much of a topic anymore during the pandemic and increasing uncertainties as to the behaviour of the PRC government in various fields, everyone was concentrating on acquiring assets more in Central Europe, especially Germany, France, and the UK – markets with very predictable growth rates, legal certainty, and governments which ensured a political stable environment.”
Meanwhile, the passing in January of the ELTIF2.0 regulation by the European Parliament, even if it still remains a niche product to date, as well as the upcoming AIFMD II amendments and MIFID changes, signify that 2023 is a year packed with more potential legal uncertainty on the horizon. It is up to Luxembourg’s legal community to raise awareness on these pending amendments and ensure the creation of legal certainty for industry players by very much tailored legal advice.
ESG demand
In addition, client-driven demand for vehicles that are sustainable in the purest sense, meaning Article 8 or Article 9 Funds under the Sustainable Finance Disclosure Regulation (SFDR), has also grown significantly. In turn, the CSSF is becoming increasingly strict in ensuring that there is no greenwashing of existing funds that have a sustainable logo or even the name “sustainable” in the respective fund name. The financial regulator is really focusing on having clear cut sustainable investment policies in place which are compliant with the detailed requirements of Article 8 or Article 9 SFDR.
“It is a client driven market trend, but as it is relatively new, the financial regulator needs to put in place more rules to really get rid of the last bits of legal uncertainty. The CSSF is proving to be very diligent in this regard and has received a lot of input from market players. It will surely create in the near future an even more harmonized level playing field for everyone demanding an ESG structure with high levels of predictability and legal certainty.”