ALFI UCITS IV implementation project – KID Q&A Document

Q. Is the management company obliged to disclose to investors which of CESR's methodologies it used tocompute the SRRI?A. No.Q. The explanatory text to Box 1 states that "[...] management companies should operate the riskclassification of UCITS as an integrated part of, or at least in strict coordination with, the arrangements andprocedures adopted for risk management purposes, to ensure monitoring of the correct and consistentimplementation of this process on an ongoing basis."Does this mean that the VaR parameters that are used to manage the UCITS' risk in accordance with CESR/10-788 (if the UCITS uses VaR) must be exactly the same as the parameters used to compute the SRRI underCESR/10-673?A. No, they need not be exactly the same. There are many legitimate ways to calculate VaR in compliance withCESR/10-788. Provided that CESR's guidelines are respected, model selection and implementation remains a matterof the risk manager's objective judgement, taking into account the nature of the fund and the aim of constructing themost appropriate model for risk management purposes. In practice, two independent risk managers could take afund's return history and justifiably calculate different VaR. If such flexibility were to be permitted under CESR/10-673 itwould undermine the suitability of the indicator as an aid to the retail investor comparing one fund to another. For theSRRI, a harmonised calculation methodology is therefore essential: two independent risk managers should beexpected to take a fund's return history and calculate the same SRRI, notwithstanding that the practitioner must stilluse some judgement to apply the methodology.We understand "in strict co-ordination with the arrangements and procedures adopted for risk management purposes"to mean that CESR expects practitioners to select the SRRI methodology deliberately and objectively, and to monitorthe results as an integrated part of the fund's risk management process.Q. Is it permitted to use one benchmark for the calculation of a fund's VaR in accordance with CESR/10-788and a different benchmark for the simulation of its SRRI in accordance with CESR/10-673?A. Yes, provided that there is good reason to do so. One such reason might be if the most suitable benchmark for thecomputation of VaR in accordance with CESR/10-788 has insufficient history to be of use when simulating the SRRI.In that case, another suitable benchmark could be used to simulate the SRRI. If the most suitable benchmark for VaRcalculation also had a 5-year history, it would be reasonable to expect it to be used to simulate the SRRI.Q. The KID should be available before the fund is launched. On which date should the initial SRRI becalculated and does the SRRI need to be monitored between this date and the launch of the fund in order tobe sure that it meets the requirements of the sliding window test?A. Practically speaking, it would be simplest to compute a simulated SRRI in the week before the launch and start thesliding window test from that date. There is nothing to prohibit the practitioner from calculating the SRRI earlier andmaintaining it under the sliding window test.Q. Should the SRRI be calculated on the basis of the NAV gross or net of fees and expenses?A. The SRRI should be calculated on the basis of the NAV net of fees and expenses, with dividends reinvested. (Seepage 6 of CESR/10-673, which refers to the "net asset value.")Q. To what degree must the computation be documented? Is it necessary for the management company to beable to re-compute any of the SRRIs for the last five years?A. Paragraph 8 of Box 1 on page 5 of CESR/10-673 says that "management companies shall keep records of thesecomputations for a period of not less than five years; this period shall be extended to five years after maturity for thecase of structured products."We consider this to mean that the management company must retain a record of the method that it used to computethe SRRI (for example, which of CESR's classifications it employed and how it applied CESR's formula, particularlywhere CESR's definitions permitted some freedom to decide how the formula should be applied in detail) and thesource data that were used in the computation. Examples of source data include the UCITS "return history", which thepractitioner may take to mean the NAV history rather than derived data such as the return in a particular period t or thearithmetic mean of the returns over a longer period T. Similarly, in respect of "the fund's representative portfolio model,target asset mix or benchmark" (Box 4, para 2(a)) that are used to simulate a return history, the source data mayinclude sufficient information to identify the securities in the model portfolio or asset mix, or the precise identity of thebenchmark, but need not include the prices of the related securities, which may be derived from market data systemsif they are needed again in the future. Similarly, computed data such as those described in para 2(c) of Box 4 need notALFI KID Q&A, Issue 1314, 11 April25 September 2012 Page 41