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COLL 5.3 Derivative exposure

Application

COLL 5.3.1 R

This section applies to an authorised fund manager of a UCITS scheme and to an ICVC which is a UCITS scheme.

Introduction

COLL 5.3.2 G

  1. (1)

    A scheme may invest in derivatives and forward transactions as long as the exposure to which the scheme is committed by that transaction itself is suitably covered from within its scheme property. Exposure will include any initial outlay in respect of that transaction.

  2. (2)

    Cover ensures that a scheme is not exposed to the risk of loss of property, including money, to an extent greater than the net value of the scheme property. Therefore, a scheme is required to hold scheme property sufficient in value or amount to match the exposure arising from a derivative obligation to which the scheme is committed. This section2 sets out detailed requirements for cover of a scheme.

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  3. (3)

    In accordance with COLL 5.1.3 R (2)(b) (Treatment of obligations), cover used in respect of one transaction in derivatives or forward transaction should not be used for cover in respect of another transaction in derivatives or a forward transaction.

COLL 5.3.3 R

  1. (1)

    [deleted]2

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  2. (2)

    [deleted]2

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  3. (3)

    [deleted]2

    2
  4. (4)

    [deleted]2

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  5. (5)

    [deleted]2

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Cover for investment in derivatives and forward transactions

COLL 5.3.3A R

2The authorised fund manager of a UCITS scheme must ensure that its global exposure relating to derivatives and forward transactions held in the UCITS scheme does not exceed the net value of the scheme property.

[Note: article 51(3) first paragraph of the UCITS Directive]

Daily calculation of global exposure

COLL 5.3.3B R

2An authorised fund manager of a UCITS scheme must calculate its global exposure on at least a daily basis.

[Note: article 41(2) of the UCITS implementing Directive]

COLL 5.3.3C R

2For the purposes of this section, exposure must be calculated taking into account the current value of the underlying assets, the counterparty risk, future market movements and the time available to liquidate the positions.

[Note: article 51(3) second paragraph of the UCITS Directive]

Guidance on cover

COLL 5.3.4 G
2
  1. (1)

    An authorised fund manager should note that the scope of COLL 5.3.3C R2 is extended in relation to underwriting commitments by COLL 5.5.8 R (4) (General power to accept or underwrite placings).

  2. (2)

    Property the subject of a transaction under COLL 5.4 (Stock lending) should not be considered as available for cover unless the authorised fund manager has taken reasonable care to determine that it is obtainable (by return or re-acquisition) in time to meet the obligation for which cover is required.2

Borrowing

COLL 5.3.5 R

  1. (1)

    Cash obtained from borrowing, and borrowing which the authorised fund manager reasonably regards an eligible institution or an approved bank to be committed to provide, is not available for cover under COLL 5.3.3A R (Cover for investment in derivatives and forward transactions),3 except if (2) applies.

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  2. (2)

    Where, for the purposes of this section, the ICVC or the depositary4 for the account of the AUT or ACS4 on the instructions of the authorised fund manager4:

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    1. (a)

      borrows an amount of currency from an eligible institution or an approved bank; and

    2. (b)

      keeps an amount in another currency, at least equal to the borrowing for the time being in (a), on deposit with the lender (or his agent or nominee);

    then this section applies as if the borrowed currency, and not the deposited currency, were part of the scheme property.

COLL 5.3.6 R

  1. (1)

    [deleted]2

    2
  2. (2)

    [deleted]2

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Calculation of global exposure

COLL 5.3.7 R

2An authorised fund manager must calculate the global exposure of any UCITS scheme it manages either as:

  1. (1)

    the incremental exposure and leverage generated through the use of derivatives and forward transactions (including embedded derivatives as referred to in COLL 5.2.19R (3A) (Derivatives: general)), which may not exceed 100% of the net value of the scheme property; or

  2. (2)

    the market risk of the scheme property.

[Note: article 41(1) of the UCITS implementing Directive]

COLL 5.3.8 R
  1. (1)

    2An authorised fund manager must calculate the global exposure of a UCITS scheme by using:

    1. (a)

      the commitment approach; or

    2. (b)

      the value at risk approach.

  2. (2)

    An authorised fund manager must ensure that the method selected in (1) is appropriate, taking into account:

    1. (a)

      the investment strategy pursued by the UCITS scheme;

    2. (b)

      the types and complexities of the derivatives and forward transactions used; and

    3. (c)

      the proportion of the scheme property comprising derivatives and forward transactions.

  3. (3)

    Where a UCITS scheme employs techniques and instruments including repo contracts or stock lending transactions in accordance with COLL 5.4 (Stock lending) in order to generate additional leverage or exposure to market risk, the authorised fund manager must take those transactions into consideration when calculating global exposure.

  4. (4)

    For the purposes of (1), value at risk means a measure of the maximum expected loss at a given confidence level over the specific time period.

[Note: articles 41(3) and 41(4) of the UCITS implementing Directive]

Commitment approach

COLL 5.3.9 R

2Where an authorised fund manager of a UCITS scheme uses the commitment approach for the calculation of global exposure, it must:

  1. (1)

    ensure that it applies this approach to all derivative and forward transactions (including embedded derivatives as referred to in COLL 5.2.19R (3A) (Derivatives: general)), whether used as part of the scheme's general investment policy, for the purposes of risk reduction or for the purposes of efficient portfolio management in accordance with the rules of this chapter; and

  2. (2)

    convert each derivative or forward transaction into the market value of an equivalent position in the underlying asset of that derivative or forward (standard commitment approach).

[Note: articles 42(1) and 42(2) first paragraph of the UCITS implementing Directive]

COLL 5.3.10 R
  1. (1)

    2An authorised fund manager of a UCITS scheme may apply other calculation methods which are equivalent to the standard commitment approach.

  2. (2)

    An authorised fund manager may take account of netting and hedging arrangements when calculating global exposure of a UCITS scheme, where those arrangements do not disregard obvious and material risks and result in a clear reduction in risk exposure.

  3. (3)

    Where the use of derivatives or forward transactions does not generate incremental exposure for the UCITS scheme, the underlying exposure need not be included in the commitment calculation.

  4. (4)

    Where the commitment approach is used, temporary borrowing arrangements entered into on behalf of the UCITS scheme in accordance with COLL 5.5.4 R (General power to borrow) need not form part of the global exposure calculation.

[Note: articles 42(2) final paragraph, 42(3), 42(4) and 42(5) of the UCITS implementing Directive]

ESMA guidelines5

COLL 5.3.11 G

2 Authorised fund managers of UCITS schemes6 are advised that ESMA has76 issued guidelines which, in accordance with the UCITS implementing Directive, authorised fund managers should comply with in applying the rules in this section in relation to UCITS schemes:6

Guidelines: Risk Measurement and the Calculation of Global Exposure and Counterparty Risk for UCITS (CESR/10-788)

https://www.esma.europa.eu/sites/default/files/library/2015/11/10_788.pdf 7

Guidelines to competent authorities and UCITS management companies on risk measurement and the calculation of global exposure for certain types of structured UCITS (ESMA 2012/197)7

https://www.esma.europa.eu/sites/default/files/library/2015/11/2012-197.pdf 7

Guidelines to competent authorities and UCITS management companies on ETFs and other UCITS issues (ESMA 2012/832)7

https://www.esma.europa.eu/sites/default/files/library/2015/11/2012-832en_guidelines_on_etfs_and_other_ucits_issues.pdf 7

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