Update to the Central Bank’s Position on QIAIFs Holding Indirect Exposure to Digital Assets

PUBLISHED: 6th April 2023

On 4 April 2023, the Central Bank of Ireland published the 47th Edition of the AIFMD Q&A (the Q&A) clarifying investment limits for qualifying investor alternative investment funds (QIAIFs) holding indirect exposure to digital assets.

The investment limits for QIAIFs seeking indirect exposure to digital assets are as follows:

1. where a QIAIF is open-ended it can gain exposure to digital assets of up to 20% of net asset value (NAV); and
2. where a QIAIF is closed-ended or is open-ended with limited liquidity it can gain exposure to digital assets of up to 50% of NAV.

This is a welcome update and effectively removes the pre-submission requirement for QIAIFs seeking to gain indirect exposure to digital assets within the above limits. The pre-submission process (set out here) will still be required for QIAIFs proposing to invest indirectly in digital assets in excess of the above limits or any direct investment in digital assets.

In order to avail of these investment limits, the following requirements, as set out in ID1145 of the Q&A, apply:

1. the AIFM must have an effective risk management policy to address all risks relevant to investment in digital assets. This must address, at a minimum, risk relating to liquidity, credit, market, custody, operational, exchange risk, money laundering, legal, reputational and cyber risk;
2. the AIFM must carry out appropriate stress testing on the proposed investment in digital assets. The stress testing should be extreme yet plausible, reflecting asset price volatility of digital assets including the potential entire loss of value in the investment;
3. the AIFM must have an effective liquidity management policy in place which includes a sufficient suite of tools to enable the AIFM to manage liquidity events arising in the QIAIF;
4. the prospectus of the QIAIF must contain clear disclosure in relation to the nature of the proposed investment in digital assets and must contain a clear articulation of the risks associated with that investment; and
5. the QIAIF should assess the overall construction of its portfolio to ensure that there is an alignment between the redemption profile, the level of investment in digital assets and the likelihood of illiquidity (both in normal and stressed conditions) in the types of digital assets invested in. In this regard,
   •  where a QIAIF proposes to invest up to 20% of its NAV in digital assets, the QIAIF may be structured as having open-ended liquidity provided that the portfolio as a whole is determined by the AIFM to be suitable for an investment fund providing open-ended liquidity;
   • where a QIAIF proposes to invest up to 50% of its NAV in digital assets, the QIAIF must have either limited liquidity or be closed-ended.

The Q&A provides that direct investment in digital assets is not permitted until such time as it is demonstrated to the Central Bank that a depositary can meet its obligations under AIFMD to provide custody or safe-keeping services to digital assets. In respect of indirect investments in digital assets, how a depositary can demonstrate its obligations will be tested but we imagine that it can be achieved where a depositary can facilitate indirect investment in digital assets through, for example, the use of derivatives.

The Q&A also clarifies that, for the purposes of the Central Bank’s guidance, “digital assets” refers to digital assets which are based on an “intangible or non-traditional underlying” and does not include investments which are considered tokenised traditional assets (whose value is linked to an underlying traditional asset or pool of assets (such as financial instruments or commodities)). As such, digital assets falling within the scope of the Central Bank rules would include investments in crypto currencies.

For further information or if you have any questions in relation to the above, please contact David Naughton or Mina Dawood.