Armed with a fully upgraded and modernised regulatory framework, Cyprus is ready to compete for big fund business in the alternative investment space even during the most unstable of times.
Cyprus’ investment funds industry is dusting off its newcomer status as increasing numbers of medium-sized funds and top-tier fund managers decide to locate to the island. Assets under management (AuM) have increased by 200% from €2.7 billion in 2016 to €8.3 billion in 2019, showing that it is not the sector’s size but its fast growth that has impressed, and is being recognised by, the global asset management and investor community.
Although Cyprus has snatched up some UCITS business, it looks to specialise in the structuring of alternative assets in sectors where it already has a strong global presence such as shipping, energy, real estate and wealth management. The island’s cost-effectiveness, its flexible and recently updated legislation, as well as its proximity to the Middle East and Africa, and longstanding preferential access to Eastern Europe, post-Soviet states and Russia, are some of the key reasons why market players started turning to the island.
In the short to medium-term future, it appears the sector will not be able to retain its previous performance level as the Covid-19 pandemic has presented it with a new level of challenge. Globally, the novel coronavirus has halted economic activity like no other event, and markets are only gradually reopening. While the pandemic will certainly be a test of Cyprus’ resolve and ambition, the outlook for the longer term remains positive as many believe the sector has not even begun to realise its full potential.
Late on the Scene
To understand where Cyprus stands today, it’s important to chart the last few years of the country’s evolution. Although the Cypriot investment funds sector dates back to the late 1990s, the country only saw substantial inflows in the past few years. Following the 2013 financial crisis, Cyprus sought to create new opportunities for investors by transforming a debt-driven economy into an investment-driven one – and the investment funds sector was identified as an economic driver of the future.
Although Cyprus arrived somewhat late to the party, it gained considerable ground after government and industry began an extensive outreach campaign to attract funds-related business. The country updated and modernised its regulatory framework to bring it on par with those of other European fund domiciles and brought in new procedures and products designed to speed up time-to-market.
Major market players quickly recognised and accepted Cyprus’ refined fund framework. As a result of growing client demand, international fund platforms, including Clearstream, Refinitiv and Bloomberg, began listing Cyprus funds in 2018 and 2019, which makes them visible and easily accessible to global asset managers and fund professionals.
European Growth Leader
Cyprus offers both EU-regulated Undertakings of Collective Investment in Transferable Securities (UCITS) and Alternative Investment Funds (AIFs). On the international scene, Cyprus still has a comparatively small funds industry. Europe’s cross-border fund market is firmly dominated by Luxembourg, with €4.7 trillion AuM, and Dublin, which had €3 trillion AuM at the end of 2019. But there are other domiciles used within the European zone, including Malta, Gibraltar, the Isle of Man and increasingly Cyprus which are successfully competing for business. In fact, Cyprus experienced the highest Net Asset Value (NAV) growth rate at a pan-European level in all fund categories during the fourth quarter of 2019 according to the European Fund and Asset Management Association (EFAMA).
A Growing Funds Cluster
Cyprus’ investment fund sector today is a vibrant cluster. The Cyprus Securities and Exchange Commission (CySEC) supervises more than 200 companies, including collective investment schemes and fund managers. The majority of funds operate in the alternative space, with CySEC having around 100 externally managed AIF products and only some 10 UCITS on its books. The island is also maintaining a steady pipeline of new business. CySEC reported in June 2020 that it is processing some 50 applications for various fund structures.
Most notably, Cyprus succeeded in attracting Alternative Investment Fund Managers (AIFMs) and UCITS Management Companies. Companies such as BAO Capital Partners, Citigrade Capital, Blue Diagonal Capital, Fiduserve Asset Management, MFO Asset Management and Hanseatic Capital Management Ltd are all licensed AIFMs, while Easternmed Asset Management, GMM Global Money Managers Ltd and Wealth Fund Services are active in the UCITS space. Fund platforms such as those of KMG Capital Markets and Fortified Capital are open to third parties, and fund hosting represents one of Cyprus’ fastest growing and most active segments of the industry.
Although Cyprus attracted some UCITS management companies, many industry professionals expect UCITS to remain more of a niche market for Cyprus. However, foreign UCITS are widely marketed in Cyprus, including ones promoted by international heavyweights such as JP Morgan, Merrill Lynch, UBS and Julius Baer.
The number of AIFs has seen consistent growth and will continue to dominate the Cypriot investment funds scene in the years to come. Following the modernisation of the island’s fund framework, today there are three types of AIFs that can be set up in Cyprus. In addition to the Alternative Investment Fund of Unlimited Number of Investors (AIFUNP), investments can be structured in the form of an Alternative Investment Fund of Limited Number of Investors (AIFLNP), which is promoted to family offices and high-net-worth individuals as an alternative to a group holding company.
Then there is the Registered Alternative Investment Fund (RAIF), which has become a success story of its own. RAIFs, Cyprus’ version of Luxembourg’s popular Reserved Alternative Investment Fund, have truly taken off over the past 18 months. RAIFs do not require a licence from the industry regulator, the Cyprus Securities and Exchange Commission (CySEC), but need to be registered with CySEC by an already authorised Alternative Investment Fund Manager. There were already 26 RAIFs operating out of Cyprus at the end of April 2020 – with the first RAIFs only starting out in 2019.
Cyprus is strategically positioning itself as a home for specialised alternative funds and investment boutiques, with many of them primarily dealing with private equity and investment in areas such as banking, real estate, hospitality, and, most prominently, in maritime and energy – two sectors in which Cyprus has an outsized influence on the European economy. For the shipping industry, Cyprus has become a major European flag state while it is hosting the EU’s largest shipmanagement centre. In the energy sector, Cyprus has attracted a lot of attention following the natural gas discoveries of recent years. Multinational oil and gas companies today have significant operations on the island and are investing at an unprecedented scale in the Eastern Mediterranean.
A Maturing Industry
Thus far fund sizes vary significantly ranging from €10 million to €1 billion, which goes to show the diversity of fund business in Cyprus. Currently Cyprus is ideal for regional players, start-up funds, alternative funds, as well as larger entities looking to diversify into new asset classes with minimum risk and cost. However, fund professionals report that they are seeing more medium- sized funds moving into Cyprus, and they believe the sector has significant scope to grow.
In attracting new fund professionals to the island, the Cypriot government has set its sights on new markets, including Asia, particularly India and China, Israel, Africa and the Middle East, and the marketing initiatives of recent years have ensured a steady pipeline of new business. Asian fund managers are increasingly establishing funds or fund management companies in Cyprus in order to access the EU market. At the same time, the island registered growing interest from UK fund managers who set up in Cyprus to retain their access to the EU market after Brexit.
Cyprus is also home to a number of third-party management companies offering foreign fund promoters plug-and-play solutions and easy access to the European market. These fund platforms provide investment managers with a fully compliant UCITS/AIFM entity and thus a European passport to market their funds within the EU, without the need to establish their own fund and/or management company substance in an EU Member State. Platform solutions are traditionally structured as umbrella funds, and managers can benefit from the efficiencies provided by the pre-existing structure of the platform in terms of sharing costs, existing middle and back office operating models, tried and tested systems and speed to market.
More Regulatory Updates
Although Cyprus has significantly enhanced its regulatory framework for the sector, the global asset management community can look forward to additional changes aimed at elevating the domicile even further. The island is currently working on new legislation that will provide for effective supervision of all local fund administrators. The introduction of a fund administration law is seen as a significant development, which will add comfort to fund managers and investors alike.
In addition, in June 2020, Cyprus finalised a new regime dubbed the Mini Manager, which governs a new type of fund manager and allows for the provision of fund management services to funds under the AIFMD thresholds. Mini Managers are allowed to manage AIFs whose assets do not exceed the threshold of €100 million, with the use of leverage, or €500 million when unleveraged with a lock up of five years.
There is widespread belief that this regime will appeal to fund managers who need a cost-effective vehicle that will undertake limited investment or to those fund managers who may wish to use it as a first step before committing to a more complex set-up.
Discussions are also underway to tweak the island’s RAIF framework further. Currently RAIFs cannot be used for money market or loan origination funds. However, there are plans to open up this structure to loan origination funds.
Cyprus currently enjoys a positive market perception, which has been a key driver of new business. The island has impressed the world with its economic turnaround since its 2012-2013 financial crisis. The country has significantly strengthened its regulatory infrastructure and supervisory capabilities, instilling investor confidence in the process.
CySEC, the regulator, has invested significant resources, including investment in additional staff, to ensure the application process is as efficient as possible. Technology and new tools are constantly being deployed, and CySEC is currently working on a platform to allow fund promoters to submit applications online. The regulator is committed to maintaining an open channel of communication with industry professionals and address any obstacles to the smooth operation of the funds industry without limiting its supervisory capability.
Cost effectiveness also plays an important role in attracting new fund business. The set-up costs of a Cyprus fund are significantly lower than in the more mature fund centres and range from €20,000 to €30,000 – approximately one third of a similar set up in Luxembourg and Ireland.
Besides, Cyprus offers one of the most attractive fund tax regimes in Europe – for the fund manager, investor and the fund. While the island’s advantageous tax regime, with double tax treaties with 65 countries, has long been an important element in investor attraction, Cyprus also introduced new provisions to further enhance the already competitive tax regime for fund managers in 2018. One of the provisions is a taxation of carried interest or performance fee for AIF and UCITS fund managers. This essentially means that executives of investment fund management companies or internally managed investment funds may opt for a new mode of personal taxation. Additional benefits of domiciling in Cyprus also include the country’s stable political environment and strong legal framework based on UK common law, which provides flexibility, transparency and reliability in business practices.
From Front to Back Office
Cyprus’ main draw-card is the ease of doing business and a very large network of support companies and service providers. The country hosts a number of recognised fund service providers, ranging from global names to local independent operators servicing all types of funds at very competitive rates. Investment and risk advisors, analysts, distributors, brokerage houses and middle office providers all form part of Cyprus’ evolving fund ecosystem. The ‘Big Four’ accounting firms are well-established on the island, as are fund administrators with global expertise, such as Alter Domus, IQ-EQ and Vistra.
A number of law offices have cooperation agreements with renowned international law firms, instilling confidence that the local industry can grow and create an attractive environment for the establishment of funds, fund management and servicing companies. Banking, custody and depositary services can be sourced locally as Cyprus-based banks have formed strategic relationships with renowned global custodians and international prime brokers in order to meet the needs of asset managers and funds.
The Cyprus Investment Funds Association (CIFA) is the collective voice of the funds industry and is taking the lead in raising the industry’s profile. CIFA is a full member of the European Fund and Asset Management Association (EFAMA) and an associate member of the International Capital Markets Association (ICMA). The status of the jurisdiction was further bolstered in 2019 when Cyprus was awarded full membership of the International Investment Funds Association (IIFA), underlining the fact that the country operates within a rigorous legal framework that promotes transparency and protects investors.
Chasing Big Names
As the market and fund sizes continue to grow, Cyprus is well on its way of becoming more attractive to big name international service providers such as custodians, fund administrators and distributors. The introduction of tax and redomiciliation incentives for funds and fund managers, the modernisation of procedures and the further reduction of bureaucracy are expected to help convince additional international players to join Cyprus’ booming funds industry.
In addition, the island is increasingly on the radar of digital finance companies and could be picking up more investment in this space. In 2018, CySEC established an innovation hub to address and explore the rise of fintech and regtech developments. The Hub is a place where both supervised and non-supervised entities in new industries have ongoing access to the authority to better understand and implement their regulatory requirements. With increasing demand from start-up fintech companies, hedge funds and other financial services players, Cyprus is also making a name for itself in the cryptocurrency and blockchain arena. With a surge in the number of pioneering blockchain and crypto start-ups and a government supporting digital currency and infrastructure, the talent in this sector is positioning Cyprus as an ideal location for new initiatives in structuring crypto and tech-focused investment funds.
Thriving in Uncertain Times
Cyprus’ investment funds sector was doing well before the coronavirus pandemic challenged and affected countries and economies worldwide. The island recorded a strong increase in the number of funds managed and funds registered. If the growth of recent years can be sustained, AuM could well reach €12 billion in the next five years according to CIFA. The European investment fund industry held some €15 trillion in net assets at the end of March 2020 – a figure that goes a long way towards showing the size and potential of European fund business.
However, the current volatile economic situation could delay the sector’s growth. Globally, investors pulled billions from the industry, and fund managers had to address the consequences arising from a decline in liquidity. Nevertheless, many in Cyprus are confident that the sector can come through this rough time and that there will be new fund formations in the third and fourth quarter of 2020. It’s likely that the fund industry will rebound more quickly than other industries as the recent market turbulences and the disruption in world trade have also created new investment opportunities, in particular for strategies that thrive in uncertain times.
The hurdles for launching a fund are, however, higher today than they were in the past. Compliance, regulations and greater demand for transparency have increased the cost of running a fund. Amid the radically changed investment climate, Cyprus with its solid legislative framework, relatively low operating cost, EU passporting capability, professional service providers and efficient tax regime has all it takes to remain a relevant and attractive investment funds jurisdiction.
For more information, contact the Cyprus Investment Funds Association (CIFA)
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