We have a very specific approach to Rule Naming. A rule name is made up of, for example:

Whilst the rules engine enables complex definition of rules to be built up, the recommended approach is instead to use the pre-defined groupings of assets already available. These are:

Different terms are referred to. The interpretation depends on context.

We apply the approach that securities can have an issuer and a guarantor, although few have guarantors. The issuer / guarantor types are as follows:

How this applies depends on a particular rule.

In general,

We have 2 main defined terms of:

A rating of BBB- is the lower threshold for investment grade. Therefore,

Credit Ratings are available at;

It is not always clear whether a rule is referring to the instrument or issuer rating. In general, unless specifically clarified:

Country exposure rules can be written to refer to one, multiple or all of the below.

Where it is not specified, then, we make the following assumptions:
It is assumed that meeting any of the criteria suffices.

E.g. Minimum 50% in European investments is met if there is 50% in holdings where either:

There are a range of rules in respect of market capitalisation. This includes a range of key terms like small cap, mid-cap, large cap. This can also be differentiated by region. E.g. capitalisation of a certain UK large cap may only be large enough to be a US Mid-cap, if it were a US company. Therefore, we adopt the approach set out in the Investment Association sector guides for the capitalisation limits; unless specified otherwise by the client.

Many rules refer to the diversification as a percentage of NAV. Typically, these can be written as the market value in base currency / NAV in base currency.

However, our standard approach to such rules is to not use Market Value, but instead to use the Absolute (Commitment Exposure netted at underlying instrument level).

Note; this makes no difference for long-only funds which invest only in non-derivatives, including cash, equities, bonds, funds etc., as for these the market value will be the same as the exposure. However, for funds that do invest in derivatives, this is important to ensure that the portfolio is truly in compliance.

Note also that this is the standard required for UCITS regulatory rules and avoids problems where for example cash and derivatives have negative values.

Example 1: A portfolio is only allowed to invest Max 10% in any one instrument, any one sector and any one country. In the example below, the portfolio has direct equities but also some long CFDs. The CFDs happen to have losses. If we look at the Market Value then the fund seems to be in compliance, but this is not the case if we take into account the exposure.

Example 2: A portfolio must have a minimum of 10% in any stock invested into any one sector, country etc. In the example below, the portfolio has direct equities but also some short CFDs. The CFDs happen to have gains. If we look at the Market Value then the fund seems to be in compliance, but this is not the case if we take into account the exposure.

Many rules refer to the diversification as a percentage of NAV. Typically, these can be written as the market value in base currency / NAV in base currency. However, we instead use numerators and denominators in USD. This is done for a number of reasons including:

Example 1 – Maximum 15% in any one security having regard to its market capitalisation.

The portfolio has a base currency of USD and owns £20m GBP in XYZ Plc and XYZ Plc has a market capitalisation of 110m Euro. To enable a consistent calculation to be made, the holding value / exposure and the issuer market capitalisation denominator are converted into USD.

Example 2 – See attached a CIS example.

From a Regulatory perspective,

For the regulatory rules, we determine which is the correct rules to apply.

For prospectus rules it can be less clear. Prospectus may refer to “no short selling” / “short sales” / “short positions.” Below is a summary of some of the potential scenario. The applicable scenario needs to be agreed.

There is a challenge with prospectus terminology referring to leverage and exposure.This is caused by:

UCITS vs. AIFMD

For UCITS, a UCITS can have a commitment exposure of Max 100%. This is the incremental leverage through derivatives.

In contrast, according to AIFMD Regulation, Article 6. 1 “Leverage of an AIF shall be expressed as the ratio between the exposure of an AIF and its net asset value.” Therefore, an AIFMD portfolio with total portfolio exposure of 300 vs 100 NAV, has 3 times leverage – 300%, whereas for UCITS this would be expressed as 200%.

When reviewing prospectus leverage limits, we need to be mindful as to whether the portfolio is referring to the incremental leverage (e.g. as per UCITS) or the total leverage of the fund.

The general approach is that, unless it is clear from the context that an alternative interpretation is required: the following approach is taken:

Employing leverage on a substantial basis

There may a reference to a portfolio “employing leverage on a substantial basis.”

This is taken to mean 200% incremental exposure, 300% total exposure.

In accordance with AIFMD Regulation, Article 111, “Use of leverage on a ‘substantial basis’ shall be considered to be when the exposure of an AIF as calculated according to the commitment method under Article 8 of this Regulation exceeds three times its net asset value.”

Exposure / Leverage from Derviatives (FDI)

The prospectus may refer to exposure / leverage from derivatives, rather than generally.

References to notional leverage, gross leverage or to long and short leverage / exposure from derivatives are straight-forward.

It is more complicated where the calculation of leverage / exposure pertaining to FDI only is referring to the “commitment exposure” as this provides for netting and also for reduction of the leverage by the cash and risk-free assets. In this case, the Portfolio level rule for commitment exposure should be used.

No Leverage

Where the prospectus refers to no leverage through the use of derivatives, this implies that:

This would also be relevant where the rule is that derivatives must only be used for EPM purposes.

Example: In the example below, the portfolio as a whole is deleveraged but the Royal Dutch shell CFDs, considered individually, is taking leverage.

A number of rules are written having regard to values uploaded / stored against the Portfolio, rather than calculated by aggregating across the portfolio holdings. These include:

Note, the portfolio level values of Portfolio Commitment exposure, Gross Exposure and Notional exposure are not quite the same as the aggregation across different holdings, due to treatment of cash, borrowing, shareclass hedges, forward FX etc.

Visual Overview of Portfolio Elements