Enhancements to the Fund Manager Code of Conduct


In light of the robust international developments in the regulatory regime for the asset management industry, the Securities and Futures Commission (SFC) launched a three-month consultation1  on proposals to be made to the Fund Manager Code of Conduct (FMCC).

On 17 November 2017, the SFC published the consultation conclusions2. The revised FMCC was gazetted on the same date and will become effective after 12 months ie on 17 November 2018.

The changes are vital because this represents a shift in regulatory approach in that now, the SFC is seeking to regulate disclosure to investors, including investors in offshore funds such as Cayman Islands and BVI funds.

Applicability of the revised FMCC

The revised FMCC applies to the business activities carried out by all SFC licensed or registered persons whose business involves the management of collective investment schemes and/or discretionary accounts. However, certain of the more critical requirements only apply to a fund manager that is responsible for the overall operation of a fund.

Although a fund manager appointed by a fund may not be the ultimate decision maker (which in most cases, such responsibility lies with the directors of the fund in the case of a corporate fund, and the general partner in the case of a limited partnership), it may still in substance be responsible for the overall operation of the fund. Ultimately, a fact-based review will be required.

In an example provided, the SFC suggested that if representatives of a fund manager or its subsidiaries constituted a majority of the fund board, the fund manager may be considered to be responsible for the overall operation of the fund.

The SFC indicated that it will issue further FAQs from time to time to illustrate whether a fund manager may be considered to be responsible for the overall operation of a fund.

In the absence of any definitve legislative guidance, it may be prudent for fund managers to assume they are responsible for the overall operation of the fund. That would not be an entirely surprising conclusion.

Key enhancements to the FMCC

The key areas of enhancements under the FMCC are outlined below:

Risk management

A fund manager must implement risk management procedures in order to identify, measure, manage and monitor risks relevant to its investment strategy and to which the fund is or may be exposed to, such as market, liquidity, counterparty and operational risks.

To some extent, this is not new given licence applicants must address this area in the business plan submitted to the SFC. However, it is expected that licensed managers will need more detailed procedures that what a standard business plan would cover.

Disclosure of leverage

A fund manager must disclose to fund investors (i) the expected maximum level of leverage which it may employ on behalf of the fund and (ii) the basis of calculation of leverage which should be reasonable and prudent.

Accordingly a PPM for the fund, or other disclosure documents must address expected leverage limits and the basis for calculation of leverage and such limits.

Securities lending and repurchase agreements

To address the concerns emerging from the shadow banking system, the following major requirements have been added to the revised FMCC where a fund manager engages in securities lending, repos and reverse repo transactions on behalf of the fund it manages:

  • To establish a collateral valuation and management policy and a cash collateral reinvestment policy governing securities lending, repo and reverse repo transactions and any cash collateral reinvestments to address minimum collateral valuation and margin requirements
  • To establish an eligible collateral and haircut policy to determine the acceptable types of collateral and calculation of haircuts on collateral received in connection with securities lending, repos and reverse repo transactions
  • To establish a cash collateral reinvestment policy that ensures that assets held in the cash collateral reinvestment portfolio are sufficiently liquid with transparent pricing and low risk to meet reasonably foreseeable recalls of cash collateral, and that measures are in place to manage the associated liquidity risk, and
  • To adopt enhanced disclosure requirements in fund offering documents and annual reporting to fund investors of information relating to securities lending, repos and reverse repo transactions

This is also a significant change as certain funds, particulary hedge funds engage in securities lending and repurchase agreements; more disclosure of these arrangements in the fund PPM are now required.

Liquidity risk management

Considering that the issue of liquidity has been a major focus internationally, the following amendments have been made to the revised FMCC adopting relevant International Organisation of Securities Commissions (IOSCO) principles in relation to the management of liquidity risks:

  • To establish, implement and maintain effective liquidity management policies and procedures to monitor the liquidity risk of the fund, having regard to the investment strategy, liquidity profile, underlying assets and obligations, and redemption policy of the fund, and
  • To conduct periodic reviews of the effectiveness of the existing liquidity management policies and procedures. Such policies and procedures should be updated as appropriate


A fund manager’s decision to terminate a fund should take into account the best interest of investors and should ensure that the termination process is carried out in a fair manner. Adequate disclosures of all relevant material information in relation to the termination should be made to investors.

Safe custody of fund assets

The following major requirements have been added to the revised FMCC:

  • To segregate fund assets from the assets of the fund manager, and, unless held in an omnibus client account, assets of its affiliates and other clients
  • To appoint an independent custodian to which the fund assets shall be entrusted. Where self-custody is adopted, internal controls are required to ensure that the persons fulfilling the custodial function are independent from the persons fulfilling the fund’s management functions
  • To exercise due skill, care and diligence in the selection and appointment and ongoing monitoring of the custodian
  • To enter into a formal custody agreement which is formulated with due skill, care and diligence specifying the scope of the responsibility and liability of the custodian. The custody agreement and any significant changes to such agreement shall be disclosed to the fund investors, and
  • To disclose the custody arrangement and any material risks associated with such arrangement to investors

Auditors and Audited Accounts

In addition to appointing an independent auditor to audit the financial statements of the fund manager itself, a fund manager who is responsible for the overall operation of a fund must also ensure that an audit of the financial statements of the fund is performed.

While open-end Cayman funds registered with CIMA have always needed an audit, closed-end, private equity funds have been exempt from this requirement. Under the amended FMCC, private equity funds will also need an audit, if such funds are managed by an SFC licensed entity, who is responsible for the overall operation of the fund.

An annual report for the fund should be made available to investors upon request.

Fund Portfolio Valuation

Some key amendments include:

  • The fund should have appropriate policies and procedures so that a proper and independent valuation of the fund assets can be performed
  • The valuation policies and procedures should describe the process for handling situations where the value of an asset determined in accordance with such policies and procedures may not be appropriate
  • The fund manager should review the valuation policies and procedures on a periodic basis to ensure its appropriateness and effective implementation
  • The frequency of the valuations should be appropriate to the fund assets and the dealing frequency of the fund
  • The fund manager should disclose the frequency of valuation and dealing and basis of valuation to fund investors, and
  • The valuation policies and procedures should be periodically reviewed (at least annually) by an independent party

The revised FMCC makes it clear that the fund manager remains responsible for the valuation of the fund’s assets even if a third party is appointed to perform the valuation and the fund manager must exercise due skill, care and diligence in the selection of such third party provider.

Side Pockets

Before any “side pocket” is introduced in a fund, a fund manager that is responsible for the overall operation of a fund must ensure that certain information are disclosed to investors, including:

  • The limit to total assets to be put in the side pockets
  • The overall fee structure and charging mechanism
  • The fact that the redemption lock-up period for a side pocket would be different from ordinary shares
  • How the fund manager defines and categorizes investment products which are put into side pockets
  • Where the assets in side pockets are allowed to be transferred to another investment vehicle, the circumstances under which transfers are allowed and the price mechanism for such transfers, and
  • The actual amount of fees charged in relation to side-pocketed assets from time to time

What fund managers should do

In light of the changes to the FMCC, fund managers should consider taking the following actions promptly:

  • Perform an analysis as to whether it is responsible for the overall operation of the fund as this impacts the level of obligations which it would be subject to under the revised FMCC.
  • Review all custody arrangements to ensure compliance with the revised FMCC. It is also expected that going forward, more stringent due diligence should be performed when selecting a custodian.
  • Review existing valuation policies and risk management policies (including liquidity risk management) to ensure compliance with the revised FMCC.
  • Ensure administrators are selected with due skill, care and diligence if they are delegated fund portfolio valuation responsibility. Administration agreements should be reviewed to ensure consistency with the requirements under the revised FMCC.
  • Review existing fund documents to ensure adequate disclosures to investors are made such as with respect to leverage, custody arrangements and related risks.
  • Ensure that an auditor is appointed for the fund. Typically, a fund will already have audited financial statements, but in some cases where, for example, a Cayman Islands domiciled fund is not registered with the Cayman Islands Monetary Authority, this might not be the case.
  • Ensure that adequate disclosures with respect to side pockets are provided to investors as required under the revised FMCC.


The revised FMCC demonstrates a local regulatory shift towards greater transparency in financial markets as well as greater alignment with the global and international standards. Fund managers will need to review and update their fund PPMs, disclosure documents, compliance manuals and other procedures.


via JD Supra

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