Investment fund regulation

This chapter offers a comprehensive examination of investment fund regulation through a functional lens. Initially, it defines the financial concept of investment funds and explores the various forms they assume in contemporary financial markets. Subsequently, it delves into the intricate relationship between financial stability and investor protection within the investment fund industry, emphasizing the pivotal role of investment funds as conduits for non-banking financial intermediation. Additionally, it addresses the risks linked to financial transformation activities undertaken by investment funds. The chapter identifies the primary drivers of financial instability, highlighting how liquidity and leverage issues in investment funds can act as channels for systemic risk, impacting both the financial system and the real economy. These risks materialize mainly through potential “runs” on funds, defaults in financing contracts and derivatives, and the devaluation of asset classes held by funds due to forced fire sales triggered by liquidity constraints. Drawing on this analysis, the chapter outlines the core common features of investment fund regulations across key jurisdictions, noting the convergence of different legal systems, primarily influenced by supranational bodies’ guidance. It details the licensing and registration requirements and the powers vested in supervisory authorities. Furthermore, it examines disclosure and governance rules, alongside mandatory constraints on managers’ discretion, which impose limits on fund composition. By providing this regulatory overview, the chapter underscores the crucial role of robust regulatory frameworks in maintaining financial stability and protecting investors in the investment fund sector.