On July 1, 2010 the European Commission introduced a new programme of legislative changes with respect to the investment funds known as UCITS (Undertakings for Collective Investment in Transferable Securities). These legislative changes are popularly known as UCITS IV. The focus of this article will be the changes introduced by virtue of Commission Regulation (EU) No 583/2010 (the Regulation). This Regulation concerns the fund disclosure documentation to be issued to investors in UCITS and in particular the new methodologies being introduced regarding the calculation and presentation of risk information in relation to all UCITS funds.
The Key Investor Information Document (KID)
The driving force behind the concept of a KID is to cut away the complexity of fund industry terminology from documentation presented to retail clients and replace it with easy to understand language. This will allow an investor to better assess the essential elements of a UCITS. The concern in the past was that investors were unable to properly evaluate the suitability of their investments due to complex language in the fund documentation being provided to them. The new rules, as set out in the Regulation, aim to establish a harmonised set of guidelines to be followed by UCITS in order to provide retail investors with information which will be easy for them to understand. One of the most significant aspects of this new approach is the way investors will be informed as to the risk and reward profile of the investment.
Synthetic Risk and Reward Indicator (SRRI)
A SRRI is in essence a number between 1 and 7 which will allow investors assess the risk applicable to a potential investment in a UCITS. A numeric value of 1 will mean a low risk/low reward investment while a 7 on the scale will indicate the investment carries a high level of risk but an equally high level of potential return. The European Commission carried out extensive research on investor preferences before deciding on the use of a SRRI. This research revealed investors were more confident in their ability to compare the relative risks associated with different funds when it was presented on a numeric scale.
The simplicity of the numeric scale belies a complex set of calculations. The calculation of the SRRI will be based on the volatility of a UCITS past performance. Volatility in this context relates to fluctuations in the net asset value (NAV) of the UCITS. This will be calculated on the basis of the...