In practice, the same investment firms and credit institutions are acting as a custodian for discretionary mandates and ‘execution only’ services under MiFID II and CRD IV, a depositary under the AIFMD and UCITSD V, and a depositary or custodian under IORPD II. My recently published book Depositaries in European Investment Law (Eleven International Publishing 2018) shows that the European investment laws, ie MiFID II, CRD IV, the AIFMD, UCITSD V and IORPD II are inconsistent in granting a depositary passport or a custodian passport to these depositaries or custodians. They are both inconsistent throughout the directives and on a cross-sectoral basis.
On a cross-sectoral basis, MiFID II and CRD IV have an ‘ancillary’ European passport for ‘custodians’ in place. To the contrary, the AIFMD and UCITS require the depositary of UCITS and EEA-AIFs to be established in the UCITS or EEA-AIF home Member State, whereas the same entities acting as a depositary or custodian under IORPD II do have a ‘de facto’ European passport. Not only are the European investment laws inconsistent throughout the directives, but also the directives itself are inconsistent. The AIFMD, for example, differentiates between a strict locational requirement for EEA-AIFs, whereas there is a ‘quasi-depositary passport regime’ in place for depositaries appointed for third country AIFs. The inconsistency in granting a European passport for depositaries under the European investment laws lead to a ‘European depositary passport paradox’.
Notwithstanding the benefits of introducing a depositary or custodian passport, a European passport for UCITS and AIFMD depositaries has so far been multiple times considered, but not introduced. After the introduction of the ‘ancillary European passport’ under the ISD and Second Banking Directive, an MEP (Perreau de Pinninck Domenech) considered that a European depositary passport for UCITS should not be introduced for two reasons. First, it was considered that the depositary function was going beyond mere performing the ‘custodian’ function under the ISD and Second Banking Directive. Second, the depositaries in the UCITS domain had not been harmonized to effectively perform the controlling function. This reasoning, however, does not explain why currently not a depositary passport has been introduced under the substantially harmonized depositary function under the AIFMD and UCITSD V. Neither does this reasoning explain why depositaries and custodians under IORPD II enjoy a ‘de facto European passport’ under a minimum harmonized regime and why the AIFMD grants transitional relief for credit institutions and a quasi-depositary passport for third country AIFs.
For these reasons, my research monograph explains that, despite of the differences between how depositaries and custodians are regulated throughout European investment law, common principles support the introduction of an AIF/UCITS or even a cross-sectoral depositary passport. Depositaries under the AIFMD, UCITSD V and IORPD II perform a safekeeping and oversight role and custodians under CRD IV and MiFID II merely a safekeeping role. Despite of this, the same credit institutions and investment firms that act as a depositary within individual Member States perform mainly the safekeeping function under MiFID II and the safekeeping (and oversight) duties under IORPD II. Under the various European investment law directives, the authorization, conduct of business rules, prudential regulation, supervision, and enforcement of credit institutions and investment firms are considered to be appropriately addressing the investor and market protection risks related to the safekeeping function of custodians and depositaries. Essentially, depositaries under IORPD II, UCITSD V and the AIFMD are custodians that perform, in addition to the safekeeping of assets, oversight duties. This explains why IORPD II, UCITSD V and the AIFMD require that the depositaries acting in their capacity of custodians also perform oversight duties pursuant to additional conduct of business rules. For this reason, the book concludes by suggesting that a ‘cross-sectoral depositary passport’ could be introduced on the basis of a harmonized authorization regime under MiFID II for custodians performing the regulatory ‘safekeeping of assets’, whereas on the sectoral level a cross-sectoral consistent set of legislation modelled after UCITSD V could apply to custodians that act as depositaries and perform oversight duties.
Sebastiaan Hooghiemstra is an associate in the investment funds practice of NautaDutilh, Luxembourg.