Comments on CESR's technical advice at level 2 on by ter72j27



                                                                           Date: 10 September, 2009

Dear CESR,

Comments on CESR’s technical advice at level 2 on the format
and content of Key Information Document disclosures for
UCITS and Addendum to this consultation

The Federation of Danish Investment Associations (hereafter “IFR”) believes that the Key Investor
Information (hereafter “KII”) will be an excellent replacement for the simplified prospectus and a
benefit for the industry as well as for investors.

That being said, there are three points we would like to make:

Firstly, IFR supports the use of a volatility model as a risk model for simple funds. However, we
believe that the model suggested by CESR could and should be improved in order to show as pre-
cise a picture as possible and in order to reduce migration between buckets. Otherwise, we are
afraid that the indicator may not be sufficiently reliable which in the end may cause investors to
lose confidence in the KII and the UCITS product. Suggestions as to how to improve the volatility
risk indicator are given below in the chapter “Methodology for calculation of the synthetic risk and
reward indicator”.

Secondly, in Denmark most units are traded via a specific investment fund exchange. This means
that the Danish fund industry must comply with market regulations etc applicable to companies
listed and traded on a stock exchange. This also means that it will be impossible to meet some of the
rules proposed in relation to the KID:

E.g. in relation to the revision of past performance, it is stated at page 43 in Box 13 no. 1 that “A
duly revised KID shall be published no later than 25 business days after 31 December each year.”
As information on a previous accounting year must be based on figures which are audited and ap-
proved by the Board of Directors (as the units are listed) and as such figures are not available until
the beginning of March, at the earliest, the requirement as such cannot be met. Instead, IFR propos-
es that the requirement is formulated as “A duly revised KID shall be published no later than 25
business days after the Board of Directors’ approval of the annual report.”

Another example relates to page 32, Box 6, no 3, (a) on Entry and Exit charges. For the majority of
European funds the single pricing method is the business standard. However, as almost all Danish

CESR - KII Consultation (September 2009)(E)   Page 1 of 6
funds for retail investors are listed at the investment fund exchange and in order to protect investors
from performance dilution funds are obliged to use the double pricing system. This means that all
portfolio transaction costs related to the investment or divestment of the underlying portfolio as a
consequence of subscriptions or redemptions must be paid by the entering or leaving investors. The
means are taken from the entry and exit charges.

It is very important to create comparable and valid information for investors no matter what pricing
system the funds are using. In order to achieve that it is necessary to add the following statement in
the KID in the cases where the double pricing system is applied:

                  “Entry/Exit charges covers all portfolio transaction costs associated with the En-
                  try/Exit transactions”.

Also, in relation to Box 11, no. 4 on past performance, IFR believes that it should be possible to
state performance data for a shorter period than a calendar year or even a 12 months period as pre-
scribed by MiFID. In accordance with international accounting standards UCITS are required to
produce audited annual reports and (non-audited) semi-annual reports. Thus it would only be natu-
ral to be allowed to show past performance figures for such terms where report figures are available
i.e. the following scenario should be possible:

New fund launched: 1 September 2008
Audited annual report show performance for: 1 September – 31 December 2008
Prospectus shows past performance for: 1 September – 31 December 2008
KID shows past performance for: 1. September 2008 – 31 December 2008

Furthermore, it can only be in the interest of investors to have past performance figures disclosed
even for shorter intervals than a year, as long as it is clearly stated that the figures does not relate to
a full year/12 month period and it must be confusing for investors if they are able to obtain audited
past performance figures in the annual and semi-annual reports, in the MiFID marketing material
and in the prospectus but not in the KID.

Thirdly, as a general point we find that there are too many terms that are left to be determined by
national authorities or interpreted by the funds. This will inevitably lead to differences in interpreta-
tions and so the KID for various funds will not be fully comparable to the detriment of the inves-
tors. Thus, in general, we call for more definitions or level 3 guidelines from CESR, also in order to
ensure a level playing field between funds. Please see annex 1 for examples.

Methodology for calculation of the synthetic risk and reward indicator
The Danish fund industry supports the idea of having a synthetic risk indicator coupled with an ex-
planatory text (Option B at page 21) i.e. IFR supports a volatility model for simple funds but would
suggest that improvements are made. The improvements mentioned in the following are:
     very easy to handle
     cost efficient as they can be handled in an ordinary spreadsheet, and
     would take into account the research which is generally acknowledged as being today’s
        most accurate and updated way of calculating risk based on volatility.
                                                                                               Amaliegade 31
                                                                                       DK 1256 Copenhagen K,
CESR - KII Consultation (September 2009)(E)      Page 2 of 6                            Phone: +45 3332 2981
To begin with, at page 76 – paragraph 21, the suggested statistic, r f ,t , is the arithmetic mean of
the fund’s return over T periods. Amongst both scientists and practitioners within the financial area
it has long been recognized that return is an exponential function. To comply with reality the statis-
tic must be the geometric mean. The use of a statistic like ln( P1 / P0 ) should not be of any concern
for modern fund managers with access to computers and as the outcome of this statistic equals per-
centage change no complex interpretation procedure is needed to understand and evaluate the fig-

For short term periods as shown in the CESR paper (weekly returns) the choice of statistic will
hardly be visible in the figures. However, for longer periods it may cause some serious distortions if
the arithmetic mean is used instead of the geometric mean.

Secondly, as mentioned, CESR proposes the standard deviation (square root of variance) be calcu-
lated over weekly returns and therefore the yearly standard deviation is supposed to be square root
of the year fraction used (here 52 weeks) times weekly standard deviation.

Under some circumstances weekly returns may be an acceptable time series, namely when there is
no serial correlation in the time series. However, our analysis of Danish funds’ monthly returns
suggests that serial correlation should be taken into account. Our analysis points towards there be-
ing a stronger serial correlation in time series for more volatile funds like emerging market funds.
We believe it may be caused by inefficiency in asset pricing in such markets. The consequence is
that these funds will disclose an artificially low yearly standard deviation when using the proposed

Usually shorter time intervals will show stronger serial correlation in time series. We therefore as-
sume that the dependence between weekly observations must be even more pronounced (than in our
monthly observations) meaning that calculating the yearly standard deviation as described above
will be more biased and thus will underestimate the true yearly standard deviation.

Thus, in relation to this aspect the use of weekly returns is not a suitable length of time interval and
therefore IFR strongly recommends that monthly data is used instead.

Thirdly, symmetry is a very distinctive feature of the normal distribution. The issue of symmetry is
addressed in paragraph 19: “It should be noted that in some funds the return distribution may be
skewed over short observation intervals e.g. daily. However when increasing the observation inter-
val to weekly and, notably monthly periods the distribution of returns on market funds tend to be-
come symmetric – especially when considering large diversified portfolios.”

And continues in paragraph 20: “However, given the great diversity of strategies and asset classes
that are today permitted under the UCITS rules, there will still be certain funds where, even after
increasing the observation interval, the distribution of returns will be markedly asymmetrical and
hence non-normal. For such funds, an alternative approach for the computation of volatility based
on Value at Risk (VaR), which focuses on the downside risk of the return distribution, is envisaged
in this proposal.”

                                                                                             Amaliegade 31
                                                                                     DK 1256 Copenhagen K,
CESR - KII Consultation (September 2009)(E)   Page 3 of 6                             Phone: +45 3332 2981
Despite CESR’s claims in paragraphs 19 and 20, our statistical analysis of Danish UCITS funds
show that basically most funds will be asymmetrical, and not just ”special funds” . For all funds in
our analysis we calculated asymmetry as skewness (the standardized 3. moment) of the monthly re-
turns. On the average about 80 % of the funds were left skewed (68 % in 2003 and 92 % in 2005
were the extremes). This would imply a far higher probability of an adverse investment outcome
than would be expected from a normal distribution or even from a symmetric distribution.

This would suggest that basically all funds should use VaR. However, there is no need to use the
more costly VaR methodology, as the asymmetry can be easily assessed in a spreadsheet by simply
adding the computation of skewness to the volatility measure already proposed by CESR. Further-
more, for simple funds, VaR would not lead to a more “accurate” risk assessment.

Adding further to our “bullet point list” above and also taking into account the allocation of funds
into the 6 buckets, the advantage of refining the volatility methodology by adding skewness is also
      there will be a clearer distinction between funds, and
      a lower migration rate between risk buckets can be expected.

I.e. the refined method will be more suited to capture the real risk of the portfolio.

IFR fears that the overall result, if the methodology is not refined, will be too many wrong risk as-
sessments and thus wrong investment decisions which in the end may have an adverse effect on the
UCITS brand. Therefore we propose that skewness is taken into account when assessing risk as the
use of standard deviation for “simple funds”.

Should you have any further questions, please do not hesitate to contact us.

                                                  Yours sincerely,

                                  The Federation of Danish Investment Associations

                  Jens Jørgen Holm Møller                                 Kristina Simonsen
                  Managing Director                                       Legal Consultant

                                                                                              Amaliegade 31
                                                                                      DK 1256 Copenhagen K,
CESR - KII Consultation (September 2009)(E)         Page 4 of 6                        Phone: +45 3332 2981
Annex 1
Please find below examples where further clarification or level 3 guidelines would be appreciated.

Re Risk and reward
At page 65 – paragraph 37 a referral is made to the “risk free rate” as a parameter. It should be
noted, that the risk free rate definition differs among Members states. Thus, this is an example of an
“undefined” term which in the end will lead to differences in the computation of volatility and VaR
and eventually to an uneven playing field among funds and the lack of comparability for investors.

Regarding the content of the explanatory text to be accompanying the risk indicator it is mentioned
at page 27 that when describing market risk (see no. 1, litra c) in Box 5A) “it may be helpful to in-
vestors to express risk in simple qualitative terms such as “low”, “medium to high” or “very high”,
provided there is an underlying framework…”

Generally on this issue, IFR is concerned whether operating with a separate classification for mar-
ket risk will be confusing for investors who also have to take into account the 6 “buckets” of the
overall risk classification. Furthermore, referring to our general statement above, this is an example
of a situation where it is very important that CESR issues guidelines which further determine what
is meant by “low”, “medium to high” etc. in order to ensure a level playing field and comparability
of the KIDs for investors.

Re Charges
In relation to the charges section, according to paragraph 15 in Annex 2 it is left to the competent
authorities of each country to determine when the calculation should be performed in cases when
the annual account period of a UCITS is extended beyond 12 months. However, as practice in this
area varies within Member States such a rule will again lead to there not being a level playing field
for funds. Thus, it is clearly preferable if a common rule regulating this area is found – e.g. the fig-
ures could be presented as they are with a statement that they do not represent 12 months if that be
the case.

Regarding Box 7 at page 35, unfortunately IFR cannot support the proposals made. This is so
mainly because the narrative illustration of the charges includes a reference to the “growth rate”.
Firstly, growth rates vary considerably from fund type to fund type – obviously growth rates for
money market funds and equity funds will be very different. Secondly, it is hard to define in a mea-
ningful manner how to define the term “growth rate”. Thus referring to a growth rate (and especial-
ly in the middle of a charges section) we believe will make comparisons between funds less transpa-
rent for investors.

That being said, IFR supports the idea of having one figure for all charges in order to help investors.
In Denmark an annual percentage rate is computed as follows: TER + transaction costs related to
the ongoing portfolio management + (Entry and Exit fees/7). Note that Entry and Exit fees are di-
vided by seven based on our experience that units are on average held for seven years. Such a figure
would be comparable for all funds.

                                                                                             Amaliegade 31
                                                                                     DK 1256 Copenhagen K,
CESR - KII Consultation (September 2009)(E)   Page 5 of 6                             Phone: +45 3332 2981
Re Past performance
In general, IFR agrees that the CESR proposals on the past performance calculation are sufficient
and workable and that the proposals on material changes are sufficient and workable. However, we
would like to add the following comments:

At page 40, Box 11 a graph is shown illustrating the past performance of Fund XYZ. We assume
that the graph is meant to show “net annual return” and not “yearly growth”? Furthermore, decimals
are shown in the similar graph at page 40, we assume that decimals should be included. However,
this should be clearly stated.

Finally, at page 48 on the use of track record extensions it is stated that “CESR agrees that the han-
dling of track record extensions in past performance sources other than the KID may be based on
different requirements carried out by data providers….. “ IFR believes that it would be preferable if
the same conditions were used across Member states and not left to differ with the choice of data
provider, once again to ensure comparability and a level playing field.

To summarize, in general IFR recommends that the methods for calculating risk, charges and past
performance respectively are totally standardized at EU level to ensure comparability between
funds for the benefit of the investors.

                                                                                          Amaliegade 31
                                                                                  DK 1256 Copenhagen K,
CESR - KII Consultation (September 2009)(E)   Page 6 of 6                          Phone: +45 3332 2981

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