Opinion of the European Central Bank of 14 December 2004 at the request of the Danish Financial Supervisory Authority on a proposal for a law amending the Act on investment associations and special-purpose associations and other collective investment undertakings etc. and the Financial Business Act (Hedge funds) (CON/2004/38)
Date: 2004-12-14
Institutions: European Central Bank
Subjects: Denmark, financial stability, financial supervision, hedge funds, national law

EN 

OPINION OF THE EUROPEAN CENTRAL BANK 

of 14 December 2004 

at the request of the Danish Financial Supervisory Authority on a proposal for a law amending the 

Act on investment associations and special-purpose associations and other collective investment 

undertakings etc. and the Financial Business Act 

(Hedge funds) 

(CON/2004/38) 

1. 

On  25  October  2004  the  European  Central  Bank  (ECB)  received  a  request  via  Danmarks 

Nationalbank  from  the  Finanstilsynet  (Danish  Financial  Supervisory  Authority)  on  behalf  of  the 

Økonomi- og Erhvervsministeriet (Ministry of Economics and Business Affairs) for an opinion on 

a proposal for a law amending the Lov om investeringsforeninger og specialforeninger samt andre 

kollektive  investeringsordninger  m.v.  (Act  on  investment  associations  and  special-purpose 

associations  and  other  collective  investment  undertakings  etc.)  and  the  Lov  om  finansiel 

virksomhed (Financial Business Act) (hereinafter the ‘draft law’). 

2. 

The ECB’s competence to deliver an opinion is based on Article 105(4) of the Treaty establishing 

the European Community and the sixth indent of Article 2(1) of the Council Decision (98/415/EC) 

of 29 June 1998 on the consultation of the European Central Bank by national authorities regarding 
draft legislative provisions1 as the draft law contains provisions applicable to financial institutions 

insofar as they materially influence the stability of financial institutions and markets. In accordance 

with the first sentence of Article 17.5 of the Rules of Procedure of the European Central Bank, the 

Governing Council of the ECB has adopted this opinion. 

3. 

The draft law will transpose into Danish law Council Directive 85/611/EEC of 20 December 1985 

on the coordination of laws, regulations and administrative provisions relating to undertakings for 
collective  investment  in  transferable  securities  (UCITS)2.  In  addition,  the  draft  law  lays  down  a 

specific  legal  and  supervisory  basis  for  the  establishment  of  Danish  ‘hedge’  funds.  As  draft 

national  legal  acts  exclusively  transposing  directives  fall  outside  the  scope  of  Article  2(1)  of 

Council Decision 98/415/EC, this opinion is restricted to covering those provisions of the draft law 

which concern hedge funds and go beyond merely implementing a Community directive. 

1  
2  

OJ L 189, 3.7.1998, p. 42. 
OJ L 375, 31.12.1985, p. 3. Directive as last amended by Directive 2004/39/EC (OJ L 145, 30.4.2004, p. 1). 

 
 
 
                                                      
4. 

Under the draft law, hedge funds catering to a wide circle or the general public will be subject to 

approval by the Danish Financial Supervisory Authority. It will be optional for funds which have 

only  one  or  a  few  members  to  make  themselves  subject  to  such  approval  and  thereby  become 

subject to the supervisory regime established by the draft law. The funds which are approved will 

not  be  subject  to  any  restrictions  in  terms  of  the  type  of  instruments  they  may  invest  in  or  their 

diversification,  but  the  board  of  each  such  fund  will  be  required  to  lay  down a  risk  profile  to  be 

communicated to the public by means of prospectuses and by means of its by-laws. The risk profile 

itself  will  not  be  subject  to  approval,  but  the  depositary  of  the  fund,  which  will  be  subject  to 

approval  by  the  Danish  Financial  Supervisory  Authority,  will  be  required  to  ensure  compliance 

with  this  risk  profile  and  to  report  any  non-compliance  to  the  Danish  Financial  Supervisory 

Authority.  Approved  hedge  funds  will  be  required  to  fulfil  the  general  provisions  of  the  Act  on 

investment  associations  and  special-purpose  associations  and  other  collective  investment 

undertakings  etc.  as  regards  supervision,  rules  on  prospectuses,  audit  and  corporate  governance 

requirements. As a consequence of creating a specific system for the supervision of Danish hedge 

funds,  additional  amendments  to  the  rules  and  regulations  governing  investment  management 

companies and depositaries are also proposed to enable these undertakings to act as depositaries for 

hedge funds.  

5. 

Hedge  funds  have  attracted  the  attention  of  the  global  financial  community  because  of  their 

considerable  growth  and  proliferation  as  an  increasingly  popular  alternative  investment  vehicle. 

The pace of growth of the hedge fund industry indicates that hedge funds are becoming important 

non-bank  financial  intermediaries  with  potential  implications  for  the  stability  of  the  financial 

system,  especially  because  of  their  often  active  and  highly  leveraged  trading  strategies  and  their 

growing  links  to  the  banking  sector.  Against  this  backdrop,  the  ECB  welcomes  the  fact  that  the 

Danish authorities have consulted it on the draft law and would like to emphasise the importance of 

doing so. 

6.  While it is widely recognised that close monitoring of the development of the hedge funds industry 

is necessary, public debate on whether this should involve direct regulation of hedge funds is still 

ongoing. At the international level, both the Financial Stability Forum in its ‘Report of the working 
group  on  highly  leveraged  financial  institutions’3  and  the  IMF  in  its  annual  ‘Global  Financial 
Stability  Report’4  have  expressed  support  for  efforts  by  authorities  to  better  understand,  monitor 

and influence hedge fund activities. More recently, developments in this direction occurred in the 

United States, with the recent adoption by the US Securities and Exchange Commission (SEC) of a 

new  rule  which  will  require  many  hitherto  unregulated  advisers  to  hedge  (or  ‘private’)  funds  to 
register  with  the  SEC  by  20065.  At  the  European  level,  on  15  January  2004  the  European 

Parliament adopted a resolution on hedge funds based on a report by its Economic and Monetary 

3  
4  
5  

Dated 5 April 2000. 
Dated 13 September 2004.  
Rule 203(b)(3)-2 under the US Investment Advisers Act of 1940, adopted on 26 October 2004. 

2 

                                                      
Affairs  Committee,  which  proposed  a  light  regulatory  regime  for  hedge  funds6.  The  ECB  is 

studying  the  implications  of  hedge  funds  for  financial  stability  and  the  possible  need  for  a 

regulatory regime with a view to defining a policy stance in due course. Hence, the ECB would like 

to note that its views expressed in this opinion are without prejudice to the future development of 

its general position on this issue. This opinion is therefore restricted to technical comments.  

7. 

The ECB welcomes the overall thrust of the draft law since it lays down a number of disclosure 

requirements which will enhance transparency in relation to the activities of hedge funds and the 

potential risks incurred. The ECB would like to make two remarks, however. First, the draft law 

only applies a compulsory supervisory approval system to hedge funds catering to a wide circle or 

to the general public while such a system remains optional for other hedge funds. However, hedge 

funds  may  incur  substantial  leverage  and  liquidity  risks  with  possible  implications  for  financial 

stability regardless of the scope of distribution to investors. Therefore, a possible extension of the 

disclosure requirements set out in the draft law also to those hedge funds which are owned only by 

a limited number of members could be explored. Second, the disclosure requirements provided for 

are not very specific, especially with regard to the components of the risk profile and the ongoing 

information  to  be  provided  to  investors.  In  the  light  of  the  complexity  inherent  to  hedge  funds’ 

activities and the limited number of available market benchmarks the possibility of more detailed 

provisions could be assessed with a view to ensuring that investors - particularly in the retail sector 

- are sufficiently informed to adequately assess the risk and performance of hedge funds. 

8. 

The ECB observes, as also stated in the general explanatory notes to the draft law, that there is no 

internationally  recognised  definition  of  the  term  ‘hedge  fund’.  The  term  covers  a  wide  range  of 

funds with various investment philosophies and degrees of exposure to risk. However, the general 

notes to the draft law identify the following common elements which would seem to characterise 

all hedge funds: (i) clear profit objectives and investment strategies, (ii) no legislative limitations 

on the investment freedom of the funds as regards markets, instruments, diversification or leverage, 

and  (iii)  that  the  investment  adviser  invests  considerable  assets  in  the  fund  in  return  for 

performance-related  fees.  Many  different  types  of  entities  would  be  covered  by  these  three 

elements. It is noted that the draft law does not contain any provisions which establish precisely the 

scope of such funds. Rather, in order to be able to identify the funds covered by the draft law, the 

draft  law  applies  a  definition  (see  Article 114a  of  the  draft  law)  in  the  sense  that  it  lays  down  a 

general description of the activities which hedge funds may perform. For reasons of legal certainty 

it  might  perhaps  be  helpful  to  consider  whether  a  more  precise  definition  could  be  introduced 

stipulating how hedge funds can be distinguished from other kinds of investment funds regulated 

(or not regulated) by Danish law.  

6  

European Parliament resolution P5 TA(2004)0031 on the future of hedge funds and derivatives (2003/2082 (INI)). 

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9. 

The  ECB  confirms  that  it  has  no  objection  to  the  competent  national  authorities  making  this 

opinion publicly available at their discretion. This opinion will be published on the ECB’s website 

six months after the date of its adoption. 

Done at Frankfurt am Main, 14 December 2004. 

[signed] 

The President of the ECB 

Jean-Claude TRICHET 

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