EU single market for investment funds long way off, says ECA

The EU’s vision of creating a single, broad market for investment funds remains a pipe dream, with most funds still focused on domestic markets and concentrated in just a handful of countries including Luxembourg, the bloc’s budget watchdog said on Monday. 

Although the EU decades ago introduced a so-called marketing passport that authorised funds in one member state to be promoted in another, the easing has not led to any significant increase in cross-border business and funds continue to be distributed mainly in their domestic market, according to a report by the Luxembourg-based European Court of Auditors. 

The reverse true in only in a few countries including Luxembourg, where around 90% of investments are cross-border, the report said.

“The hope was that a more integrated investment-fund market would offer EU businesses more diverse sources of financing, and give investors better protection and wider choice”, said Rimantas Šadžius, the ECA member who led the audit. “But cross-border barriers remain, supervision standards still differ across the EU, and not all of the potential gains have been realised."

Gaps in supervision and a patchwork of rules across countries mean that minor revisions to the existing framework “will not be sufficient to achieve a true single market”, the ECA report said. 

The Grand Duchy, the world’s second largest fund management centre, accounted for more than a quarter of all EU domiciled assets in 2019. Luxembourg, Germany, France and the Republic of Ireland together now host almost 70% of all funds in the bloc.

Europe watered down a planned transfer of powers to a central regulator in 2019 after lobbying by Luxembourg, which was concerned it could lose its sway over its lucrative fund management industry.

Funds supervision also was flagged by auditors as a concern. The EU agency responsible for oversight, the European Securities and Markets Authority (ESMA) has not carried out supervisory stress tests as required, the ECA said. ESMA lacks its own powers and is far too reliant on voluntary cooperation from national authorities, the report said.

The European Commission should consider changes, auditors said, including making the participation of national authorities in ESMA’s supervision work compulsory and “giving the operational lead to ESMA staff”.

“Investors are still not sufficiently protected against undue costs charged by fund managers … or against biased advice from financial intermediaries, who continue to receive inducements in most member states,” the auditors warned.

Gaps in oversight at an EU level are also leaving investors exposed to the risk of greenwashing, which is when a fund falsely describes itself as being environmentally friendly.

“The market for ESG ratings and other assessment tools is currently unregulated and unsupervised,” the report said. “When combined with increasing regulatory demands for consideration of ESG information, there are increased risks of greenwashing, capital misallocation and product mis-selling.”

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