A Lux AIF that makes investments in another currency than its BC sees its performance impacted by currency fluctuations. An example: a Lux AIF with USD as BC can get 1 EUR for every USD at the moment an EUR investment is made, but only 0.8 USD for 1 EUR when the EUR investment is sold. If that Lux AIF generates a 20% yield in EUR, it has no yield in USD terms due to the fall of the EUR. Under a currency hedge agreement (𝗙𝗫𝗛), the Lux AIF can swap EUR for USD at the original 1-to-1 rate. The 20% yield is now also secured in USD terms.

The EU EMIR regulation (π—˜π— π—œπ—₯) provides for clearing, collateral, reporting and risk-mitigation rules for privately negotiated derivative contracts, such as an FXH. EMIR’s impact depends on the parties to the FXH and the FXH’s volume. We assume for this Snippet that the FXH is the only derivative and is concluded with a third party.

A Lux AIF with FXHs that cover a value of >EUR 3bn (π—§π—΅π—Ώπ—²π˜€π—΅π—Όπ—Ήπ—±) is a large financial counterparty (𝗙𝗖+). Below that it is an FC-. The Threshold is determined for each fund structure separately. EU-based entities controlled by the Lux AIF (e.g. holding entities) are usually non-financial counterparties (𝗑𝗙𝗖) and qualify as NFC+ or NFC- depending on the Threshold. The third-party counterparty of the FXH is usually an EU credit institution (qualifying as financial counterparty or FC) that exceeds the Threshold (π—˜π—¨ 𝗙𝗖+) or a non-EU equivalent (π—‘π—˜π—¨ 𝗙𝗖+).

In case of an FXH between a Lux AIF FC+ and an (EU or NEU) FC+, the Lux AIF FC+ must clear the FXH through a clearing house. In case of an FXH between a Lux AIF FC- and an (EU or NEU) FC+, the clearing obligation does not apply but the Lux AIF FC- must manage its risk by amongst others requiring collateral, maintaining a capital buffer and posting collateral in cash(-like) assets. Such collateral is not available for investing and may thus adversely impact the fund’s performance. In both situations the manager of the Lux AIF is responsible for reporting on the FXH to the relevant EU authorities.

If the FXH is not entered into by the Lux AIF but by an NFC- (e.g. an EU-based entity controlled by the Lux AIF) and the counterparty is an EU FC+, the NFC- does not have to require collateral or maintain a capital buffer and the reporting burden shifts by default to the counterparty. If the FXH is entered into between an NFC- and an NEU FC, the foregoing reporting shift only applies if the NEU country’s rules meet specific conditions – otherwise the NFC- may still have to report. An NFC- may not need to post collateral.

The EMIR rules are very complex and require an impact assessment on a case-by-case basis.

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