​CSSF fund regulation guidance
By Marco Zwick

​CSSF fund regulation guidance

The interview with CSSF Director Marco Zwick – a now traditional feature of the ILA PwC Annual Fund Day – rounded off proceedings. As well as an overview of some of the lessons learned from the SFDR process and the implementation of liquidity management tools, he also gave a preview of the regulatory agenda for this year and beyond, particularly the planned revision of Circular 02/77.

Managing greenwashing risk

“The real questions around fighting greenwashing start now,” said Mr Zwick. “Documentation has been filed and promises have been made to investors, and these promises need to be kept.” The 1st January deadline for filing SFDR-related reports has resulted in the CSSF having tens of thousands of pages to analyse. This would include index reviews on samples of this documentation, with spot checks continuing throughout the year. This work will be a learning process for the CSSF, with the regulator ultimately looking to streamline these processes. 

On the classification of ESG funds as articles 6, 8 or 9, Mr Zwick said the regulator would conduct a complete review, including an industry questionnaire. He said the recent filing process went smoothly for most, but there were still some funds that have not met the deadline.

“There was a lot of declassification from article nine to eight as many players preferred to be conservative,” he said, “but now we expect that once things become clear we will see upgrades.” Interviewer Mike Delano asked what steps are necessary to avoid greenwashing risk. “The starting point is disclosure, but then it’s about delivering what is promised, and this is about having the right processes in place,” Mr Zwick said. Risk management should address the question of misselling, he noted.

He added that aspects of this will be included in the planned revision this year of Circular 02/77, a key investor protection and compliance regulatory text for all CSSF-regulated funds. “The compliance function should be involved in looking at ESG promises made, investment restrictions that have been encoded into systems,” Mr Zwick said. 

Circular 02/77 and AIFMD reform

He also outlined other areas of this 20-year-old text which will be refreshed, for release in the next couple of months. Originally a UCITS-focused document, 02/77 will now also apply directly to CSSF-regulated AIFs. Greater clarity will be given to the responsibilities of the board, the ManCo, the depositary and other key stakeholders. How operational errors should be treated (including swing pricing and fee payment errors) will be dealt with, and there be fresh indications on the definitions of passive and active breaches. 

AIFMD II is also coming down the pipe, with political agreement at the EU level likely this year. Mr Zwick warned that the principle of delegation is still under question within ESMA and political circles, adding that the CSSF would continue to insist that there is no need to change this model. The requirement to have at least one independent fund board member will be part of the debate around AIFMD, he said. 

Other regulatory innovations

The roll-out of the cross-border distribution directive continues, with the industry required to report to ESMA by the end of Q1. He mentioned the recent circular on fund administrators, which he said had generally been well-received, and that a review of the stages of implementation would be conducted this year. On virtual assets, he said the recent crypto blow-ups changed the demand for the technology and related business cases. He expressed hope that the reformed ELTIF could gain traction this year. Mr Zwick reminded the audience of the CSSF’s ongoing focus on AML/CFT.

On the use of liquidity management tools after the Russian invasion of Ukraine, Mr Zwick was pleased that the industry had tended to use these sparingly, be they swing pricing tools or side pockets. He said only a “handful” of side pockets had been created, adding that the relevant CSSF FAQ “is just covering side-pockets for retail funds during the Ukraine crisis and not anything else, so cannot be seen as a precedent.” He noted that Luxembourg has become a thought-leader and innovator for the global industry on liquidity management regulation. He mentioned the CSSF publications in this area which was supported by internal PhD researchers in in partnership with the BIS.

This year will see the now-annual common supervisory action from ESMA, with this year’s review to be about ESG, following the evaluations of liquidity management, costs and fees, and valuation during in 2020-2022. Mr Zwick said the industry should expect to seem more movement in this direction. “That's clearly the direction ESMA wants to go, with the ultimate goal to harmonise supervisory processes further,” he said.

Although the reform of the long form reports has required considerable work, Mr Zwick argued that this would deliver cost and time savings over the long term. “Companies which have fewer issues will at long term not have to submit reports on a yearly basis, for instance,” he said, thanks to the CSSF using a risk-based approach. More problematic companies, will, however, have to file more frequently. He noted the other advantages of making the reports easy to compare between different companies. He said there are teams looking to adopt similar principles for reporting by internal control functions such as internal audit, compliance and risk management. 

A to-do list for directors

A to do list for directors rounded off the interview before Mr Zwick took questions from the floor. “Embrace regulatory change” was his first piece of advice, because this change is inevitable. He recommended using it as opportunity to be a first mover. Similarly, he called on fund companies to invest in technology. 

More specifically for boards, he called for directors to further increase their levels of expertise, especially in the domains identified by the ILA/PwC study as presenting lower levels, such as accounting, risk management (particularly when combined with ESG), AML are all areas in which there could be improvement within boards as a collective. More specifically on ESG “insist that your board assesses and decides on the strategic significance of ESG risks and opportunities.” As for director’s role itself, he asked them to “resist any temptation to remain passive. It can sometimes be challenging, but do not compromise your independence.” 

This presentation followed a deep, technical dive earlier in the day into fund regulation given by Pascal Berchem and Alain Hoscheid, both senior managers at the CSSF. In conversation with Sophie Dupin of Elvinger, Hoss & Prussen, they looked in detail into requirements about assessment questionnaires, management letters, SAQs and more. 

ILA PwC Annual Fund Day 2023: Pictures