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Following a review of more than 2,500 UCITS funds which are marketed as actively managed funds, the Central Bank of Ireland (Central Bank) identifies 182 UCITS that met the European Securities and Markets Authority's definition of a closet tracker. In a “Dear CEO” letter (the Dear CEO Letter) addressed to the boards of UCITS and their managers dated 18 July 2019, the Central Bank identifies the failures by certain UCITS to properly disclose to investors the UCITS’ investment strategy, it identifies examples of poor governance and control over the review and oversight of offering documentation and the Central Bank outlines the remedial action that should be taken to ensure that UCITS comply with investor disclosure requirements.

What are Closet-Trackers?

They are funds that to the retail investor look like, and charge fees that are similar to, actively managed funds[1] but which are actually managed in a manner similar to a fund whose investment strategy is to passively track a financial index. This allows the closet-tracking fund to charge investors a higher management fee without having to do the necessary research, analysis, investment appraisal and other work that an actively managed fund ought to carry out to justify its fees.

Financial regulators around the world are eager to ensure that closet-tracking funds are not offered to investors as is clear from the following:

  • The Central Bank of Ireland (the Central Bank) announced in December 2018 that is was analysing 2,550 Irish UCITS classified as actively managed in order to determine if they are closet-trackers (the CBI Closet-Tracker Review);

  • Following a similar analysis carried out by the UK’s Financial Conduct Authority (the FCA), it confirmed that £34 million of “voluntary” refunds where paid to investors and in its’ Final Report, following its’ Asset Management Market Study published in June 2017, the FCA estimated that there was approximately £109 billion of investor monies invested in funds that are closet-trackers;

  • A similar analysis carried out by the New York Attorney General in 2018 resulted in 13 of the largest fund managers in the world being ordered to amend their disclosures to investors in order to prevent closet-tracking;

  • In 2014 the Danish financial regulator carried out a similar review and concluded that almost one-third of Danish equity funds could be classified as closet-trackers;

  • In 2015, the Norwegian financial regulator ordered what it considered to be a closet-tracker fund, DNB Norge IV, to lower its fees on the grounds that the fund was tracking its benchmark more closely than investors were entitled to expect. On 8 May 2019, the Norwegian Court of Appeal ruled that the excessive fees charged to investors in that fund, almost €34 million, must be paid back on a pro rata basis to the investors in that fund;

  • In April 2019, class actions were taken in British Columbia against funds that allegedly engaged in closet-tracking; and

  • In April 2019, the European Securities and Markets Authority (ESMA) published an updated version of their UCITS Q&A (the Q&A), which required certain disclosures in key investor information documents (KIID), aimed at preventing closet-tracking, to be made “as soon as practicable” or by the next KIID update.

Central Bank’s “Dear CEO” Letter

In its Dear CEO Letter the Central Bank’s highlights the following conclusions from the CBI Closet-Tracker Review:

1. Poor or Inadequate Disclosures in Prospectuses, Supplements and KIIDs

The Central Bank identified the following issues that restricted investors from making informed investment decisions:

  • Investor disclosures that did not accurately describe the true nature of the investment strategy of the UCITS, such as whether it followed an active or a passive investment strategy

  • In some cases the disclosures in prospectuses, supplements and KIIDs were inconsistent with information in other documentation such as marketing materials

  • Marketing materials that explained the investment policy of UCITS more clearly than prospectuses, supplements or KIIDs, however such marketing material was typically only made available to institutional investors, which potentially disadvantaged retail investors, and

  • Inadequate disclosure in prospectuses, supplements or KIIDs, which failed to clarify that the UCITS operate in a constrained manner within parameters that limit the UCITS’ ability to significantly deviate from a benchmark

2. Poor Governance and Controls

The Central Bank also criticised the boards of UCITS in relation to the following matters:

  • Insufficient review and oversight of prospectuses, supplements and KIIDs

  • Insufficient evidence of boards challenging the investment strategy of the UCITS

  • Insufficient oversight of investment policy and distribution strategy, and

  • A lack of regular assessments to determine if the performance of the UCITS reflects the expected active management that investors are paying for, and if the fees charged are commensurate with the level of actual active management and performance achieved

3. Multi-Manager UCITS

The Central Bank was critical of certain multi-manager UCITS as it found some examples where multi-manager UCITS consistently delivered performance similar to that of a financial index, yet charge fees that are more typical of an actively managed fund. The Central Bank recommended that the boards of multi-manager UCITS should consider whether the multi-manager approach results in a strong correlation with the performance of a financial index to an extent that it may not be appropriate for the UCITS to charge active management fees.

4. Impact of Management Fees

The Central Bank identified examples where UCITS have an objective to outperform a benchmark by a margin, however the margin or targeted level of outperformance of the benchmark is less than the management fee charged to certain share classes of the UCITS. This would mean that even if the UCITS achieves its targeted investment returns, investors in these share classes will not realise a positive return against the benchmark, as the management fee charged will cancel out any out-performance achieved.

5. Not Disclosing the Performance of a Relative Benchmark

The Central Bank identified examples of KIIDs where the past performance section did not include the relevant benchmark. This means that investors are not able to determine from such KIIDs if the UCITS represented good value relative to its benchmark.

Further Investigation

As noted above, the Central Bank has identified 182 UCITS that it believes are closet-trackers. To date the Central Bank has completed specific follow-up engagement with an initial group of 57 UCITS and will continue its engagement with the remaining a UCITS over the coming months. Of the initial group of 57 UCITS that the Central Bank has commenced initial engagement, the Central Bank is requiring UCITS to participate in a risk mitigation program, which require the UCITS to revise its prospectus and KIID and to send the revised documents to all investors together with the details of the Central Bank’s findings that prompted the amendments.

Action to be taken by Boards

The Central Bank stated that each UCITS board should actively consider the contents and findings of the Dear CEO Letter and carry out the following tasks:

  • Ensure that the prospectus, supplement(s) and KIID(s) are in compliance with all relevant legal requirements and regulatory guidance, including Q&A documents issued by ESMA and the Dear CEO Letter

  • Ensure that any marketing material or other documents provided to investors is consistent with information contained in the prospectus, supplement(s) and KIID(s)

  • Ensure that if a UCITS is managed in a constrained manner relative to a benchmark that this constraint is disclosed in the prospectus, supplement(s), and the KIID(s)

  • Ensure that when assessing the annual presentation to the board by investment managers, the board should consider if the UCITS has delivered on the stated investment objective and if it remains a viable and suitable investment for investors. Such review should be documented and assess, amongst other matters, the UCITS performance fee (if any), fee structure and investor base. In addition, the board should assess the fees charged on all share classes to assess if they are appropriate for the targeted level of outperformance of the UCITS against its benchmark

  • Ensure that the Dear CEO Letter is brought to the attention of all members of the board, designated persons and the relevant responsible persons within service providers

The Central Bank makes it clear in its Dear CEO Letter that any necessary updates that need to be made to the prospectus, supplement(s) and/or KIID(s) in respect of the above must be submitted to the Central Bank by 31 March 2020. The Central Bank also makes it clear that it will have regard to the contents of the Dear CEO Letter as part of future supervisory engagement.

Comments of the Director General

The Director General of the Central Bank, Ms. Derville Rowland, provided the following comments on the CBI Closet-Tracker Review and the Dear CEO Letter:

“This represents our largest data driven review of the funds industry to date and we will follow through with each individual fund where we had findings. Investors in UCITS have a right to rely on the information in the Prospectus and the KIID and funds have an ongoing duty to ensure that this information is accurate and that the fund is managed in investors’ best interests. As well as following up with the funds where we had findings, we are requiring all UCITS funds to consider the accuracy of their Prospectus and KIID on an ongoing basis in light of these findings. Where such funds need to amend their Prospectus or KIID on foot of this exercise, we are giving them until 31 March 2020 to do so.”


The contents of the Central Bank’s “Dear CEO” Letter should be carefully considered and, if necessary, acted upon. In particular, board procedures, fee structures, investment policies, prospectus, supplement(s) and KIID(s) should be reviewed, and where necessary amended, to ensure they comply with the applicable requirements. Failure to carry out a comprehensive review and remediation of any issues identified could result in enforcement action being taken by the Central Bank and, worst still, could also expose the UCITS to litigation from investors.

If you would like further information, please contact a member of our Investment Funds team.

The content of this article is provided for information purposes only and does not constitute legal or other advice.

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