The European Parliament ,

–   having regard to the implementation of the Financial Services Action Plan, in particular Directive 2003/71/EC of the European Parliament and of the Council of 4 November 2003(1) on the prospectus to be published when securities are offered to the public or admitted to trading, Directive 2003/6/EC of the European Parliament and of the Council of 28 January 2003 on insider dealing and market abuse(2) and the European Parliament's position of 25 September 2003 on the proposal for a European Parliament and Council directive on investment services and regulated markets(3) ,

–   having regard to European Parliament and Council Directives 2001/107/EC(4) and 2001/108/EC(5) of 21 January 2002 on undertakings for collective investment in transferable securities (UCITS) and especially Article 2 of Directive 2001/108/EC and Article 19(1) of Council Directive 85/611/EEC of 20 December 1985 as amended by Directive 2001/108/EC,

–   having regard to European Parliament and Council Directive 2001/65/EC of 27 September 2001 on the valuation rules for annual and consolidated accounts of certain types of companies as well as of banks and other financial institutions(6) ,

–   having regard to European Parliament and Council Directive 2003/51/EC of 18 June 2003 on the annual and consolidated accounts of certain types of companies, banks and other financial institutions and insurance undertakings(7) ,

–   having regard to the capital adequacy rules and current review thereof,

–   having regard to the IOSCO(8) report on regulatory and investor protection issues arising from the participation of retail investors in (funds of) hedge funds,

–   having regard to consideration of derivatives by the European Central Bank's task force on credit-risk transfer, the Basel Committee on the Global Financial System and the Joint Forum(9) working group on cross-sectoral supervisory co-ordination,

–   having regard to current developments in national legislation in Europe, the US and Asia covering hedge funds and derivatives,

–   having regard to its resolution of 22 September 1995 on financial derivatives: their present role on capital markets, their advantages and risks(10) ,

–   having regard to Rule 163 of its Rules of Procedure,

–   having regard to the report of the Committee on Economic and Monetary Affairs (A5-0476/2003),

Concerning hedge funds

A.   whereas the term "hedge funds" covers a wide range of financial products, which might more appropriately be called "sophisticated alternative investment vehicles" (SAIVs),

B.   whereas SAIVs provide genuine alternative means of investment that employ sophisticated techniques often in pursuit of absolute returns in all market conditions but operate with variable, sometimes very high, leverage, and can also risk substantial losses,

C.   whereas regulatory and fiscal conditions in the EU have discouraged such undertakings in EU jurisdictions, which are therefore mostly domiciled offshore;

D.   whereas a SAIVs regime could provide an appropriate regulatory home for other alternative investment funds, which do not necessarily pursue absolute returns, in areas such as property, currencies or commodities, and which are beginning to enter the European market but are currently unable to take advantage of a single EU-wide regime,

E.   whereas the alternative funds sector has seen significant expansion since the LTCM crisis in 1998, with rapid growth in capital injected and assets handled, an increase in the number of smaller funds, including in Europe, and frequent concentration of funds in tax and regulatory havens,

F.   whereas discriminatory taxes and regulations in some Member States have discouraged potential investment in foreign domiciled hedge funds, including those in other Member States,

G.   whereas there is increasing interest in the investing public and from institutional investors to gain access to such investment options while being reassured as to their probity and good management,

H.   whereas the innovative investment products and expanding investor choice offered by SAIVs are to be welcomed and encouraged,

I.   whereas many of the requisite investment skills are available in the EU and are often deployed in managing offshore SAIVs, and whereas the development of such skills should be encouraged,

J.   whereas some Member States are considering special regulatory regimes to encourage such undertakings to set up under their jurisdiction and consistency between such national regimes leading potentially to a common EU passport is desirable,

K.   whereas some hedge funds may be directly accessible anyway to retail investors without any specific protection, via European market listings or third country jurisdictions or indirectly via funds of funds or structured notes,

L.   whereas success in attracting SAIVs onshore depends on establishing a lighter regulatory regime than for conventional UCITS, and whereas any such regime should concentrate on provision of sufficient and intelligible information to the investor rather than on over-prescriptive rules and regulations,

M.   whereas there is a need to inform less sophisticated investors about the various styles and risks of this type of investment and, in particular, to make them fully aware that this type of investment should be clearly differentiated from conventional UCITS,

N.   whereas funds of funds provide diversified entry to the sector, but in due course direct investment into the underlying funds should be permissible also,

O.   whereas there is risk of systemic damage to the global financial system if these forms of investment proliferate without quantification or control,

P.   whereas recommendations were already formulated in 2001 by the Financial Stability Forum concerning the need for transparency in connection with, and regulation of, hedge funds and the need for financial regulation in offshore centres, and whereas implementation of these recommendations in the Member States has been uneven, but, overall, inadequate,

Q.   whereas with the near completion of the Financial Services Action Plan it is appropriate for the Commission to turn its attention to what would be a suitable legislative accommodation for hedge funds and other sophisticated alternative investment vehicles which currently have no European regulatory home,

Concerning derivatives

R.   whereas derivatives are increasingly used in investment products available to the general public and are therefore becoming a relevant consideration in all the directives cited above,

S.   whereas, over the last 20 years, derivatives have played a vital role in financial innovation, facilitating the creation of a range of new products (including many low risk products) and widening investor choice,

T.   whereas derivatives can be a means of limiting risk as well as of speculative risk-taking and can provide a macroeconomic benefit by dispersing risk to those best able to accept it,

U.   whereas commodity derivatives can play a vital role in hedging risk and ensuring efficient utilisation of resources in markets such as energy and agriculture, and whereas their importance can be expected to increase with further liberalisation of energy and agriculture markets,

V.   whereas it is imperative that such risk be properly monitored and controlled both as regards the risk to individuals and systemic risk to the financial system,

W.   whereas it is important to ensure that the regulation of derivatives is proportionate to the risks they pose for individual investors and for overall financial stability, and whereas it is vital that a wide ranging and effective cost-benefit analysis is carried out before any new laws or rules are added to existing regulation of these financial products,

X.   whereas the proliferation of credit derivatives raises issues in terms of tracking global levels of risk exposure,

Y.   whereas those OTC ("over-the-counter") derivatives which are unregulated could build up into a dangerous overhang in financial markets,

Z.   whereas the validity of derivatives depends on the certainty of full settlement at maturity and therefore on the credit standing and ability of ultimate counterparties to meet obligations,

AA.   whereas sophisticated types of derivatives may be illiquid and therefore holders may have difficulties closing or valuing positions, especially in difficult market conditions,

AB.   whereas derivatives are becoming a common mechanism in the financial management of corporations, investment companies and smaller banks and it is necessary for those users to have appropriate competence in controlling risk exposure,

AC.   whereas knowledge and competence even among regulatory authorities is often inadequate in this fast moving and ever changing area,

AD.   whereas financial derivatives can be marketed to retail investors in various forms, such as listed products and spread betting, provided they are under the scope of national financial regulators,

Concerning hedge funds

1.  Reminds the Commission that pursuant to Article 2 of Directive 2001/108/EC it is requested to prepare a comprehensive report on this area of investment practice by 13 February 2005 and suggests that this should be brought forward much sooner, given the potential for systemic risk as well as the increased interest in the general investor community;

2.  Calls on the Commission to introduce – given the fact that many hedge funds operate offshore and are not subject to Community regulation – Community legislation in order to make the lending by EU financial institutions to offshore hedge funds more transparent;

3.  Feels it is opportune to facilitate access to SAIVs for the moderately affluent investor and, in due course, the retail investor, when the different regulatory authorities at European level recommend it is appropriate, and that regulated funds of hedge funds could play a vital role in this gradual process;

4.  Considers it timely to develop a light handed and appropriate EU-wide regulatory regime for SAIVs which will help to attract them to locate in the EU and provide the benefits of a common European passport by means of mutual recognition;

5.  Points out that a regulatory regime for SAIVs must be sufficiently light-handed so as not to negate their role as an alternative investment medium of choice or impede the freedom of investment managers (inter alia) to:

6.  Considers that the regulator must verify and be satisfied that the promoters, directors and managers of a SAIV are fit and proper persons to be entrusted with responsibility for the savings and investment funds of third parties and are adequately expert and well-informed in the investment techniques and instruments employed in that undertaking, that the risks inherent in any SAIV are clearly advertised and communicated to investors, that the advertised style of investment and level of risk are not exceeded and that risk is properly monitored and controlled;

7.  Stresses that the SAIVs regime should concentrate most particularly on the distribution and sales methods employed, so as to avoid investment in them by persons for whom they are inappropriate;

8.  Considers that investment funds should be able to elect to be regulated under the UCITS or the SAIVs regime and be bound by that regime's requirements;

9.  Urges the investment industry and national regulators to sponsor campaigns to educate potential investors about SAIVs, their characteristics and their risks;

10.  Considers it most desirable that distributors should be specifically authorised to distribute SAIVs and that such authorisation should depend on their probity and level of knowledge regarding SAIV products and be renewable on a regular schedule;

11.  Considers it essential to provide individuals investing in SAIVs with a clear and simple risk description and warning to be acknowledged by them as representing their understanding of the risks involved;

12.  Encourages the industry to develop a self-regulatory code of conduct that encompasses aspects not expressly covered in the light-handed formal regime and in particular regarding appropriate sales and distribution methods;

13.  Accepts that a minimum limit might be imposed on investments into such funds while public understanding is poor but that this should be progressively reduced and ultimately eliminated as awareness improves;

14.  Suggests that it should be permitted for SAIVs which have long term investment horizons to restrict the periodicity of windows for sales, redemptions, dealings and net asset valuations;

15.  Considers that SAIVs should be required to run rigorous daily risk controls so as to ensure that they stay within their advertised risk parameters;

16.  Urges the industry, in consultation with the regulatory authorities, to develop easily understood and consistent risk measurements or indices, which should be published regularly to indicate to investors that advertised risk limits are being observed;

17.  Urges that a Community regulatory regime for SAIVs come within the Lamfalussy Process and that the detailed requirements be decided and regularly reviewed at level 2 but subject to Parliamentary scrutiny and call back;

18.  Calls on the Commission to consider whether a regime for SAIVs should be enacted as a distinct part of a revised UCITS directive or in a separate directive and considers that any such regime should cover hedge funds and other alternative investment funds;

19.  Considers that the world's supervisory authorities should develop an effective means, possibly including a centralised credit register at the Bank for International Settlements as proposed by the Financial Stability Forum of April 2000, to monitor and control the extent of credit, management and operational risk which this sector could bring to the world's financial system and urges the Commission to instigate such a mechanism, which should also include the more effective enforcement of existing provisions;

20.  Calls on the Commission in conjunction with national regulators to investigate the practice (predominantly by American arbitrage hedge funds) to use time zone differences and the influence of Wall Street on other markets to profit by market timing Asian and European mutual funds, to determine whether this significantly harms long-term investors in those funds and whether any steps need to be taken to rectify the situation;

21.  Expects the Commission to take action against Member States which, by differential taxation, additional regulatory requirements or other means, discriminate against SAIVs domiciled in other Member States;

22.  Urges the Commission to consult with the legislative and regulatory authorities in the USA, Japan, Switzerland and other relevant jurisdictions with the aim of developing as consistent an approach as possible internationally in this area of investment and to report on the implementation in the different Member States and in third countries of the recommendations of the Financial Stability Forum in particular as regards hedge funds and the regulation of offshore centres, and to indicate what steps it intends to take with a view to the introduction of essential regulations at the international level;

Concerning derivatives

23.  Stresses that derivatives are a completely different area, and therefore need to be subject to different regulations than hedge funds;

24.  Calls on the Commission to present the reports asked for in the abovementioned European Parliament resolution of 22 September 1995 on financial derivatives;

25.  Calls on the Commission to pay particular attention to derivatives when drafting new or amended directives concerned with financial services and also at the implementing stage under the Lamfalussy Process; stresses that such financial instruments, whilst useful, are also sometimes high risk, and can increase volatility and threaten financial stability;

26.  Calls on the Commission in the interests of coherence in securities law to draw together the various relevant items of EU legislation in order to facilitate comprehensive legislative treatment (inter alia) of derivatives;

27.  Calls on the Commission to instigate, along with national and relevant international institutions, a means of measuring and monitoring global exposure in derivatives and, in particular, the accumulated credit risk (including settlement risk) of credit derivatives; stresses that only those with appropriate capital cover may deal in derivatives, in order that, in periods of crisis, losses do not have to be borne by taxpayers;

28.  Recognises that significant regulation and regulatory structures already exist to cover derivatives. Notes the importance of ensuring that reporting requirements have adequate product coverage and of ensuring all relevant regulators have the resources and expertise to assess this data effectively;

29.  Notes the legal uncertainty which makes the use of derivatives in some Member States very difficult and urges policy-makers to come up with a solution to this problem;

30.  Asks the Commission to consider whether further steps need to be taken in the context of Basel II to provide adequate reserves in the banking system and in individual banks to meet any likely demands on liquidity by exposure to derivatives;

31.  Asks the Commission to further consider whether, in the context of Basel II, the off-loading of credit risks by banks to non-banks should allow a reduction in capital requirements and, if so, how the exposure in non-banks (including in particular in offshore hedge funds) might be assessed, monitored and controlled;

32.  Urges accountancy and investment management associations to require a high level of understanding of derivatives, their mechanisms and risks, as part of their qualification criteria;

33.  Asks the International Accounting Standards Board to work with relevant market practitioners to develop as soon as possible appropriate standards regarding the definition, quantification and accounting of derivatives and derivative positions in company accounts, and underlines the importance of finding a prudentially sound compromise which is as much as possible compatible with market practice;

34.  Urges that derivatives exposure (including timing gaps), which give a fair and consistent indication of a company's true condition, should be a required disclosure in the accounts of European companies;

35.  Considers that derivative valuations should take into account, by way of contingency reserve, the additional risks which could pertain in difficult market conditions and relative to the credit standing of counterparties;

36.  Requires the Commission and the Member States, via the Lamfalussy Process, to co-ordinate their approach to derivatives that are offered on European markets whilst respecting the need to maintain flexibility for different derivative products and markets;

37.  Calls on the Commission to ensure that European derivatives exchanges have fair and equal access to foreign market places and considers that recent protectionist moves by American competitors are unacceptable;

o
o   o

38.  Instructs its President to forward this resolution to the Council, the Commission, the Accession State governments, the regulatory authorities in all Member and Accession States, the European Economic Area, the governments of Switzerland, Japan and the USA and the International Accounting Standards Board.

(1) OJ L 345, 31.12.2003, p. 64. (2) OJ L 96, 12.4.2003, p. 16. (3) P5_TA(2003)0410. (4) OJ L 41, 13.2.2002, p. 20. (5) 5 OJ L 41, 13.2.2002, p. 35. (6) OJ L 283, 27.10.2001, p. 28. (7) OJ L 178, 17.7.2003, p. 16 (8) International Organisation for Governmental Securities Commissions. (9) A group of technical experts working under the umbrella of the Basel Committee on Banking Supervision, the International Organisation of Securities Commissions and the International Association of Insurance Supervisors. (10) OJ C269, 16.10.1995, p.217.