EU economic and finance ministers adopted conclusions on hedge funds in Brussels on May 8,* acknowledging that these funds foster the efficiency of the financial system. However, EU ministers called on creditors, investors and national authorities to remain vigilant to the potential risks posed by hedge funds. Further items on the agenda were asset management and the financial consequences of aging. The Council stressed the need for a better understanding of hedge funds characteristics and for adequate investor protection. "I am happy that we adopted the conclusions unanimously today," German Finance Minister and Council President Peer Steinbr ck said. "A significant success would be to reach best practice models and voluntary commitments to be implemented by the hedge fund industry by the end of this year." The Council conclusions follow discussions by G7 Finance Ministers at Essen on February 10 and Washington on April 13 and by EU finance ministers in Berlin on April 20 and 21. The Council proclaimed that the hedge fund industry has experienced tremendous growth in recent years, and that this trend is expected to continue. To tackle the financial consequences of aging, the Council called on Member States to work for increased participation and contribution levels of households in non-statutory pension schemes. With regard to asset management, the Council asked the Commission to revise EU legislation on undertakings for collective investment in transferable securities ("UCITS directive"). The European Council has agreed to consider, where appropriate, possible additional solutions so as to increase the participation and contribution levels of households in non-statutory pension schemes and address relevant cases of possible insufficient access to pension products and schemes, e.g. for low-income households, drawing experience from other national experiences as appropriate. Further, the Council has vowed to encourage the industry's efforts to further enhance the supply of pension savings products, where relevant, and raise the standards of advice and customer support, in order to ensure proper matching between the customer profile, on the one hand, and the nature of the investment proposed including in relation to all costs, on the other hand. This would require, in particular, consolidating a competitive environment with adequate prudential supervision, and facilitating issuance by the financial industry of instruments that enhance assets and liabilities management by providers of pension saving products and annuities. Stressing the need for further monitoring of market innovation, bearing in mind the need for a level playing field across investment products with similar characteristics, the Council invited the Commission to investigate whether further work is necessary for the development of a single market for retirement products. The Council emphasized its vigilance, as regards the macro-economic and financial stability implications of current trends in the shifting of risks to households, and in the concentration of assets within aging populations, including as intermediated through institutional investors' investment strategies. The Council took note of an interim report on application of the Lamfalussy regulatory process for financial services, presented by the chairman of an inter-institutional monitoring group (doc. 6171/07). It was informed by commissioner Charlie McCreevy of the Commission's views on the subject. The Council held a brief exchange of views on the priorities to be established for a forthcoming final report on a review of the Lamfalussy process. Originally developed in 2001 and named after Alexandre Lamfalussy, the chairman of the EU advisory committee that helped create it, the Lamfalussy process is aimed at providing increased flexibility in the legislative process so as to allow it to better respond to technological change and market developments and to allow convergence in national supervisory practices. Introduced initially for the securities sector, it was later extended to the banking and insurance sectors, and the mandate of the inter-institutional monitoring group was accordingly renewed and extended. The Lamfalussy process is composed of four "levels," each focusing on a specific stage of implementation. At the first level, the European Parliament and the Council adopt legislation establishing core principles and binding guidelines on implementation. At the second level, sector-specific committees and regulators advise on technical details. At the third level, national regulators work on coordination, while the fourth deals with compliance and enforcement of legislation. Hedge funds came in the past under heightened scrutiny in the United States as a result of the failure of Long-Term Capital Management (LTCM) in 1998, which necessitated a bailout coordinated by the US Federal Reserve. Critics have charged that hedge funds pose systemic risks highlighted by the LTCM disaster. Interestingly, the ECB (European Central Bank) last year issued a warning on hedge fund risk for financial stability and systemic risk (ECB Financial Stability Review June 2006, p. 142): "... the increasingly similar positioning of individual hedge funds within broad hedge fund investment strategies is another major risk for financial stability, which warrants close monitoring despite the essential lack of any possible remedies. This risk is further magnified by evidence that broad hedge fund investment strategies have also become increasingly correlated, thereby further increasing the potential adverse effects of disorderly exits from crowded trades." * The conclusions can be seen at: http://www.consilium.europa.eu/ueDocs/cms_Data/docs/pressData/en/ecofin/94033.pdf firstname.lastname@example.org The author is head of the International Department at the Joseph Shem-Tov law firm.