Cayman Islands: Offshore Business Sectors
Investment and Fund Management
The Cayman Islands are now one of the world's leading fund management centres due to the welcoming regime, well-constructed legislation, good reputation, and the presence of the Stock Exchange, whose regime is particularly well-suited to mutual funds.
Under the Mutual Fund Law 1996 (revised in 2007 and 2009), investment or mutual funds with more than 15 members must be individually licensed, or must be administered by licensed mutual fund administrators. Licenses are issued by the Governor in Executive Council ('ExCo') after scrutiny of the application by the Monetary Authority.
In November, 2003, CIMA introduced new mutual fund regulations in order to make funds domiciled in the jurisdiction more attractive to Japanese fund distributors. Legal experts explained that the changes were deemed necessary, as although the Japan Securities Dealer's Association had not objected to the distribution of Cayman-registered funds, the guidelines for the selection of foreign unit trusts were vague with regard to the required standards for foreign regulatory regimes, meaning that some Japanese fund distributors had opted not to take the risk.
However, CIMA included a clause in the new regulations exempting existing Cayman funds registered in Japan from the obligation to adopt the more stringent rules if the fund manager does not see the need.
In the early years of the new millennium, the Cayman Islands became the jurisdiction of choice for the registration of hedge funds. The Cayman Islands Monetary Authority (CIMA) announced in mid-2006 that the islands' hedge fund sector was continuing to boom, with an additional 665 funds having registered in the first five months of the year.
The SEC's new rules for hedge fund registration in the US did nothing to lessen the attractions of 'offshore' as an alternative domicile. Many US fund managers now choose to register their funds in Cayman, with actual management sub-contracted to US or UK firms.
By the end of 2012, the number of active mutual funds regulated by CIMA stood at 8,950 down from 9,258 funds in 2011. In 2008, the number of registered funds in the Cayman Islands broke the 10,000 barrier, but by the end of the year the number of registered funds had dipped to 9,780 (comprising 9,231 registered funds; 510 administered funds and 129 licensed funds) as the hedge fund industry fell victim to the volatile world financial markets.
The Cayman Islands Stock Exchange opened in July 1997 under the Stock Exchange Company Law 1996, specifically targeted at mutual funds and specialised debt securities (SPVs). Funds of funds and umbrella funds are both accepted, and there are no restrictions on investment policies. Funds can be established locally, or in a recognised jurisdiction, meaning the EU, the USA, Japan, Switzerland, Canada, and a number of other IOFCs. Listing takes as little as 1-2 weeks. See Law of Offshore for details of listing requirements.
By end-2012, the CSX had 1,157 listings, just up from 1,156 at the same time in 2011. Market capitalisation was USD166.5bn.
The Securities Investment Business Law, 2001 (revised in 2004) aims to regulate the business of securities investment in the Cayman Islands and provide an appropriate structure for the regulation of securities brokers, including market makers, arrangers, investment advisors and investment managers. The fundamental objective of the law is to define activity that requires a licence and then to ensure that such activity is undertaken by fit and proper persons in accordance with accepted supervisory standards of conduct for securities investment business. The Cayman Islands Monetary Authority (CIMA) is directly responsible for the licensing, supervision and enforcement of such licences.
The Securities Investment Business Law, 2002 (Commencement) Order 2002 came into force from August 14th 2002. It obliged anyone carrying on SIB to examine their status under the Law and consider whether they should apply for one of the exemptions under the Law, or potentially be subject to its licensing requirements.
With effect from 4 March 2004, the UK's Board of the Inland Revenue designated the Cayman Islands Stock Exchange as a 'recognised stock exchange' under section 841 of ICTA. The term 'recognised stock exchange' occurs throughout the Taxes Acts and in various tax regulations. For example it is used in the definition of a close company in section 415 ICTA 1988, and in the definition of investments which may be held in PEPs and ISAs. The term is often used in the phrase 'listed on a recognised stock exchange' or in similar or related expressions. Firms listed on the CSX will now be able to take advantage of the 'quoted eurobond exemption'. As a result, interest paid on securities listed on the Cayman Islands Stock Exchange can now be paid without deduction of UK tax. Similarly, securities listed on the CSX are now regarded as 'qualifying investments', allowing them to be held directly in Personal Equity Plans (PEPs) and Individual Savings Accounts (ISAs).
In March, 2006, offshore law firm Walkers said that collateralized debt obligations (CDOs) were being created at a record pace in the Cayman Islands, with $125 bn of transactions in 2005. Walkers said that more than 270 CDO transactions were established in the Cayman Islands in 2005; the number of CDOs issued in the Cayman Islands grew more than 100% in the two years previous to this.
"The first Cayman CDO was issued in 1994, however current stability in the corporate marketplace combined with the lackluster performance of debt and equity markets worldwide is translating into a surge in demand for CDOs of all types," Ian Ashman, a Partner in Walkers' Structured Finance group, said. "This type of vehicle is being used in a wider range of transactions including high volume commercial real estate deals and middle market loans."
One of the drivers for this growth was that CDOs were being used in more ways than ever before: as asset-backed securities, commercial- and residential-backed securities, balance sheet CDOs backed by pools of commercial loans, high-yield bonds, leveraged loans, and repackaged CDOs.
"There weren't a lot of corporate credit roller coasters in 2005, so CDOs performed well, diversified, and became increasingly attractive to investors and bankers," David Egglishaw, Managing Director of Walkers SPV, a licensed trust company wholly-owned by Walkers, said. "And this seems to be just the tip of the iceberg. The markets are much more transparent and liquid and we expect to see CDOs applied in increasingly innovative ways in 2006."
The Cayman Islands provide CDOs with a tax neutral jurisdiction, a sophisticated financial infrastructure that includes major banks and accounting firms, and therefore the ability to achieve measurable savings which, in turn, are passed along to investors.
Cayman legal firms were indeed in great demand from the issuers of structured finance securities during the first six months of 2006, underlining the Cayman Island's pre-eminence as a jurisdiction of choice for special purpose vehicles (SPVs) used in securitisation transactions.
According to UK data provider FactSet Global Filings, leading Cayman Islands law firms Maples and Calder and Walkers gave legal advice on 147 asset-backed securitisation (ABS) deals between January and June 2006.
Maples gave advice on a total of 111 deals and Walkers on a further 36 deals, while smaller contributions from Mourant du Feu & Jeune and Ogier pushed the total number higher still. This compares with the combined total of 92 from the three main Irish law firms of A&L Goodbody, Matheson Ormsby Prentice and McCann Fitzgerald.
The process of asset securitisation involves the sale of income-generating financial assets (such as loans, trade receivables and leases) by a company to a special purpose vehicle. The SPV, which might be a trust or a company, finances the purchase of these assets by the issue of bonds, which are secured by those assets.
Cayman law firms were also dominant in advising on collateralised deals during the first half of the year with Maples and Walkers advising on a combined 143 transactions compared, compared with 77 from the main Irish firms.
CDO issuance continued to balloon during 2007, with Cayman eventually responsible for 80% of the market; but when the sub-prime mortgage crisis hit late in the year, CDO issuance was an immediate casualty. Such recovery in issuance as took place in 2009 largely bypassed Cayman, with its strong US links. Long-term, the Islands' expertise in structured products will ensure that the business continues, but for the time being it is not the brightest star in the Cayman firmament.