The risk of disproportionate regulation and a lack of implementation time for the AIFMD have been highlighted by the FSA in its latest discussion paper. Anneken Tappe reports

The Financial Services Authority has published a discussion paper on the implementation of the Alternative Investments Fund Managers Directive, outlining pros and cons and outlining how it will integrate the new rules into the FSA Handbook.

However, the discussion paper reveals the FSA is concerned about the amount of time it has to implement the directive and also acknowledges the regulation could negative effects on smaller operators.

The AIFMD, which is still far from implementation into national law, will regulate the approximately 2,000 alternative investments funds established in the UK, as estimated by the Investment Management Association. The degree to which it will affect a particular fund is reliant on a number of criteria, including where fund and fund manager are based, its presence in other EU member states and the location of its depositories.

On the upside, as the FSA paper highlights, the AIFMD is likely to have a positive effect on conducting cross-border business. The passport, a clause allowing qualifying funds (which are registered in one member state) to market their products across the European Union, will be available from 22 July 2013. The FSA stresses that this poses and opportunity for efficiently conducting business for those AIFs that are "ready" for the new provisions.

However, what the FSA calls "heterogeneity of the sector" continues to be an issue to many AIFs. The judging of alternative investments as a homogenous asset class makes regulation simpler and more effective. But it also forces a one-fits-all legal framework on the industry that is prone to result in overregulation, bearing negative consequences for SMEs.

Additionally, the discussion paper points out that the implementation period is rather short considering that some AIFs are further away from complying with the new rules than others.

The AIFMD reduces the systemic importance of private equity more or less to the use of leverage in transactions. Even though it is tough to dispute that overleveraging is potentially risky and unsustainable, it is hardly feasible to assume all AIFs are overleveraged.

The FSA also notes that introducing a registration scheme for smaller funds that is unrelated to other requirements could lead to consumers preferring larger AIFs, which are fully regulated under the AIFMD. Smaller funds that do not fall under the AIFMD compliance requirements can opt-in to benefit from the passport. In that case, they also have to meet all requirements, which can lead to an increased financial and administrative burden.

The directive is expected to be integrated in the FSA Handbook, which the FSA sees as an opportunity to overhaul the relevant regulations. Some of the existing provisions, particularly with regard to conflicts of interest, risk and liquidity management, and transparency, may even be directly replaced with EU provisions. From 2013, the FSA will be split into two organisations, the Prudential Regulatory Authority (PRA) and the Financial Conduct Authority (FCA). AIF-related matter will fall under supervision of the FCA.

The full discussion paper is available to download here.