Luxembourg is keen to attract Ucits III compliant hedge fund. While it has a strong marketing and distribution history, its fund administration of alternatives is weaker than some of its rivals.

Since the introduction of the first Ucits directive, Luxembourg has seized every opportunity it can to attract investment funds to the country.

Its efforts have paid off. At the end of March 2010, assets in Ucits funds domiciled in Luxembourg exceeded Ä1.7 trillion ($2.1 trillion), well in excess of the estimated value of offshore hedge funds worldwide, according to the European Fund and Asset Management Association.

However, it is currently difficult to work out how much of these assets are in Ucits-compliant hedge funds. Charles Muller, deputy director general of the Association of the Luxembourg Funds Industry (Alfi), says this depends on the definition of a Ucits hedge fund. The jurisdiction does not separate Ucits funds managed by different types of managers. He adds that terms applied to Ucits vehicles managed by hedge fund managers can be misleading.

It is clear hedge fund managers are looking at setting up Ucits products in Luxembourg, whatever the definition or names. One reason is alleged investor demand coupled with what is seen as a way to try and escape the eventual restrictions of the draft alternative investment fund managers (AIFM) directive, whatever they are.

Some within the industry have doubts Luxembourg can hold its own in attracting hedge fund managers to the Ucits universe. Although none would argue that the jurisdiction has a depth of knowledge and service provision for traditional Ucits funds, Luxembourg providers acknowledge it is less experienced with alternatives, particularly compared to its main rival, Dublin.

European Fund Administration (EFA) alternative investment key account manager Marc Wenda admits the Anglo-Saxon world is more used to hedge funds with a greater level of sophistication among service providers. He and others think Luxembourg is beginning to fill its knowledge gaps in this area.

One reason is that new service providers are starting to enter the Luxembourg market. Apex Fund Services is opening a Luxembourg office in July 2010. Christophe Lentschat, hired from EFA to kick-start the operation, says smaller providers like Apex will be able to provide a more customised approach similar to the services demanded by offshore hedge funds.

An area Luxembourg has worked hard on and which will benefit hedge fund managers setting up a Ucits fund as well as traditional Ucits managers is marketing and distribution.

“Everybody here from the lawyers to the regulators to the fund administrators has expert- ise in cross-border distribution,” says Lentschat.

Muller says “every second fund” distributed in Hong Kong is domiciled in Luxembourg and thinks the jurisdiction has particular strengths in marketing to Asian investors. As the global economy shifts east that could prove a big selling point for hedge fund managers wanting as wide as possible distribution reach for their Ucits funds.

Hedge fund managers are also likely to be drawn to Luxembourg through the example of some of the industry’s big players. Bank of America Merrill Lynch (BAML) Alternative Investment Services, Deutsche Bank and Lyxor all have Ucits platforms domiciled in Luxembourg. Funds run from those platforms have drawn a significant amount of investment during a period where capital raising has been difficult.

Most Ucits funds domiciled in Luxembourg are structured as a Sicav (société d’investissement à capital variable), or open-end collective investment scheme. The Sicav structure allows for platforms as it enables funds to be established as sub-funds of an umbrella Sicav.

The Sicav structure, believe Luxembourg industry providers, will also sit well with the AIFM proposals currently under negotiation. Luxembourg’s regulator, the Commission de Surveillance du Secteur Financier (CSSF), has been openly supportive of the directive. Earlier this year director-general Jean Guill told Hedge Funds Review the directive would open the European market for sophisticated products.

The CSSF also plans to be the first regulator in Europe to implement the Ucits IV directive in July 2011, says Guill, although there may be some competition on this front from Malta and Ireland as well as Gibraltar – all keen to get a jump on its implementation.

Muller thinks Ucits IV is unlikely to change the Luxembourg industry a great deal. Instead Alfi’s attention is turned to following the growth of Ucits-compliant hedge funds and trying to attract more management companies to the jurisdiction.

Muller admits hedge fund management companies are usually resistant to move locations, but believes it is worth the effort for Luxembourg to target management companies outside Europe who may want to operate inside the EU to protect them from the AIFM directive.

A key concern dogging the expansion of Ucits hedge funds is the ability of the structure to cope with the variety of hedge fund strategies. Alfi has set up a working group to monitor the way hedge fund managers are running sophisticated Ucits vehicles and how these are being sold to different groups of investors.

Although hedge fund strategies being fitted into Ucits are legal Muller points out that the Ucits product was originally designed to facilitate retail sales across the EU. Few hedge fund managers are marketing retail Ucits products and are instead focusing on attracting institutional assets.

“The question must be asked: Are we not going beyond what can be reasonably offered to a retail investor?” Muller says.

Despite this concern Luxembourg is working to make the most of the opportunities provided by the trend towards Ucits-compliant hedge funds. Industry participants say Luxembourg needs to promote its experience with the vehicle but also its other plus points. One of these is its stable economy, particularly compared to financially challenged Ireland.

Service providers say increased competition will help keep costs down. Both Luxembourg and Dublin have been known as expensive jurisdictions. Luxembourg says the label is unfair. Muller claims much of the expense comes from the cost of distribution and believes the country is still competitive compared to its rivals.

Now Luxembourg needs to get its message out to the hedge fund world, convincing managers it can service the increasingly sophisticated products being fitted into a Ucits wrapper.