The regulator’s consultation paper does not mention Saba but the relevance of the proposed changes to the type of situations in which the US hedge fund has been involved is clear.
In its executive summary of the consultation paper, the FCA says: “Closed-ended investment funds, commonly referred to in the UK market as investment trusts, are a long-standing part of the market, with a history of more than 150 years.
“These vehicles are both companies and investment products and are owned by their [shareholders]. These shareholders have the right to exercise certain controls over investment funds, based on the principle of one share, one vote. Those rights are enshrined in the law, rather than in our rules.”
Of course, many thousands of private investors are well aware of what investment trusts are, given the popularity of these vehicles for long-term savings.
However, it was good to see the FCA acknowledge how long investment trusts have been around.
Investment trusts, of course, have a proud tradition in Scotland, dating back to 1873.
In terms of recent developments, Saba, at its third attempt after other shareholders had twice succeeded in opposing its efforts, ousted the entire board of Edinburgh Worldwide Investment Trust on April 30. This board was replaced by US-based individuals nominated by Saba.
The US hedge fund’s stake in Edinburgh Worldwide was put by Jonathan Simpson-Dent in January, when he was still chairman of this trust, at “just over” 30%.
In an open letter to Edinburgh Worldwide shareholders on April 21, Saba had said: “In the event shareholders elect a newly constituted, independent board at EWI’s AGM on 30 April, Saba intends to submit itself to the board for consideration as the company’s next investment manager.
“Any change to EWI’s investment manager, including the potential appointment of Saba as manager, would be at the sole discretion of the company’s board, in accordance with its fiduciary duties. No Saba employee, affiliate or other representative will be on the company’s board and Saba will have no involvement in board deliberations.”
The FCA says in its consultation paper: “We propose a new rule to clarify a closed-ended investment fund’s obligations when entering into a transaction or arrangement to appoint a new investment manager. We refer to the new investment manager as the proposed investment manager in this consultation. This is to reflect that this is about the new entity that will become or will be appointed as the investment manager, rather than amending or renewing an existing arrangement with the incumbent investment manager.
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“The proposed rule would require closed-ended investment funds to ensure that any director who is not independent of the proposed investment manager does not participate in the board’s consideration of the transaction or arrangement for the appointment of the new investment manager. This would include not voting on the board resolution.”
The FCA adds: “We also propose changes to the definition of ‘associate’ so that it applies to a proposed investment manager. A director would not be independent of the proposed investment manager if they were appointed as director after being proposed for appointment to the board by the proposed investment manager or its associates, regardless of whether they are a substantial shareholder; and/or fall within the proposed criteria based on the criteria set out under UKLR (UK listing rules) 11.2.13R. By this we mean references to the ‘investment manager’ in this rule should also be read as applying to the ‘proposed investment manager’.
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“We consider this would complement and strengthen the existing requirements for a closed-ended investment fund’s board to be able to act independently of its investment manager.”
The FCA also proposes changes on related party transaction rules in the context of “recognising the association between a director and a substantial shareholder that proposed them for appointment”.
It says: “To strengthen the relevant related party transaction rules, we consider it would be beneficial to acknowledge the ongoing association between a director and a shareholder that proposed them for appointment within the context of the related party and relevant related party rules. This is most significant in situations where the shareholder, or its associates, that proposed them for appointment is a substantial shareholder.”
The consultation paper also considers the scenario of a material change to a trust’s investment policy.
The FCA says: “In a scenario where a substantial shareholder is also the investment manager of the closed-ended investment fund, the risk of influence over the board of the closed-ended investment fund could be increased or perceived to be increased.
“The investment manager would also have a significant vote on any proposed material change to the investment policy. They could potentially influence and support a change that is not supported by the majority of other shareholders. We would like to explore this, as there is a risk as well as a perception that the related party in this scenario has a conflict of interest and could take advantage of its position.”
The FCA adds: “We propose that a substantial shareholder who is also the investment manager of a closed-ended investment fund, and any of its associates, be excluded from voting on a material change to an investment policy. In a scenario where an associate of a substantial shareholder is the investment manager, we propose that the substantial shareholder only be excluded from voting on a material change to the investment policy.
“The intention is to help secure an appropriate degree of protection for shareholders in the instance that a substantial shareholder which is also an investment manager seeks to or is perceived as seeking to amend the investment mandate for its own advantage without wider consideration of other shareholders.”
The AIC was swift to welcome the proposed changes. And it did mention Saba.
AIC chief executive Richard Stone said: “These proposals would strengthen investor protection, particularly when a substantial shareholder like Saba Capital seeks to replace the board and become the manager. They address a gap in the rules where a shareholder who wants to manage the company can seize control of the board to promote its own interests at the expense of other shareholders.”
Mr Stone added: “We’d like to extend our thanks to the FCA for listening to our concerns and proposing meaningful reform. We welcome this short consultation period of only seven weeks which should help to get these rules in place swiftly. We will work with the FCA and industry to analyse the potential impact of these reforms and get them implemented as quickly as possible. In the meantime, we would expect market participants to respect the spirit of these proposals.”
The reference to respecting the spirit of the proposals is an eye-catching one.
It will be interesting to see how things develop from here, with the FCA’s proposals looking to be a very positive development but still having a way to go before any implementation.