A Look At The Draft CMA Investments Regulations, 2021

Collective Investment Schemes (CIS) are pools of funds that are managed on behalf of investors by fund managers.

The amounts invested in the CIS are pooled and utilized by fund managers to buy stocks, bonds, or other securities that are in accordance with the funds’ objective, with the aim of generating returns for their investors.

In Kenya, Collective Investments Schemes are governed by the Capital Markets Authority (CMA) and are regulated under the Capital Markets Collective Investments Schemes Regulations, 2001.

The governance structure of CIS’ is such that there are checks and balances to ensure investors’ capital and returns are protected.

According to the regulations, to ensure the proper running of a CIS, it should have a Fund Manager, a Trustee; as well as a Custodian. The Fund Manager administers, manages, and ensures that the funds from their investors are invested in accordance with the fund investment objective.

A custodian is a company, usually a bank, approved by the Authority to hold in safe custody the funds/ assets of a collective investment scheme.

Trustees, on the other hand, ensure that the investors’ interests are protected at all times. Collective Investment Schemes (CIS’s), have gained popularity in the Kenyan market in recent times due to their relative affordability, high liquidity, and access to a wider range of investment securities even with limited capital.

Recently the Cabinet Secretary for the National Treasury and Planning, through the Capital Markets Authority (CMA), published two draft regulations; the Capital Markets (Collective Investment Schemes) Regulations, 2021, and the Capital Markets (Collective Investment Schemes) (Alternative Investment Funds) Regulations, 2021.

The proposed CIS regulations seek to update the current Collective Investment Scheme regulations given the changes in the market dynamics since the last published Regulations in 2001, as well as address the emerging issues.

Additionally, the draft Alternative Investment Funds’ (AIFs) regulations seek to create a regulatory environment for privately pooled funds whose investors seek higher returns by investing in specified alternative asset classes.

Some of the key positives include:

1. The eligibility criteria for a CIS Trustee has been expanded to include any company with a minimum issued and paid-up capital of ten million shillings, and has the sufficient and necessary financial, technical and operational resources and experience,
2. The fund manager shall be required to contribute at least 2.5% of the stated initial capital of each scheme or Kshs 1.0 mn, whichever is lower, and,
3. Codification of the use of International Financial Reporting Standards (IFRS) as the primary valuation methodology – The draft CIS regulations require that schemes value their AUM daily and in accordance with the definition of fair value as set out in the relevant International Financial Reporting Standards (IFRS) on valuation. We believe this is a good thing for harmonization of standards in line with international principles as well as providing guidelines on how CIS can engage in short selling.

While it is a good direction to review the regulations, the proposed regulations contain several areas of improvement including:

1. Deemed CIS – Under the draft CIS regulations, all pooled funds that have scheme property of over Kshs 1.0 mn are to be deemed a CIS, without due consideration to private offers and other private arrangements. This provision as is could be taken to mean that even private offers that have property over Kshs 1.0 mn,
2. Special Funds investment limits are highly limiting – The general 10.0% restriction on investment in unlisted securities, down from 25.0% removes the viability of special funds,
3. The capping of maximum investors to 20 may limit the uptake of Alternative Investment funds. Larger funds with more investors serve to boost investor confidence and limiting the number of investors will likely lead to the creation of unnecessarily many AIFs or see the continued preference for private offers as opposed to the regulated AIFs, and,
4. The set minimum investment amount of Kshs 1.0 mn into Alternative Investment Funds seems prohibitive and restrictive to investors, especially in a country like Kenya where the median income is around Kshs 50,000. Setting the minimum investment amount at 20 times the median income is unreasonably high more so in this current operating environment.

Further, there is a lack of harmony between the proposed CIS regulations, the Act, and other Regulations or Guidance within the Capital Markets Framework leading to inconsistencies and contradictions. For instance, the definition of Collective Investments Schemes in the draft CIS regulations are beyond what is included in the Act with the inclusion of new terms such as Deemed CIS and Savings Club.

Consequently, it’s our view that proceeding with the regulations as proposed would not be good for the market. We recommend that CMA first does and publishes a Regulatory Impact Assessment to contextualize draft regulation and also take into account comments from the public to produce revised drafts that have more positive than negatives to the market. As published, the current drafts will likely impact our capital markets negatively, not to mention the likelihood of facing a lot of legal challenges.

For more information, please see our topical on The Draft CMA Investments Regulations, 2021.