New Brazilian Regulation Surrounding Foreign Capital

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As Brazilian hedge fund managers prepared to take advantage of the long-awaited issue of a resolution that would allow them to access offshore markets in 2008, the global financial crisis hit just in time to set back their hopes. Indeed, local fund managers had waited years for the Commissão de Valores Mobilários (CVM), Brazil's regulator of investment funds and capital markets, to issue Instructions 450 and 456, which provided long-awaited access to international financial instruments. Essentially, CVM 450 and 456 allowed multimercado funds (the local term used to describe onshore hedge funds) to place up to 20% of fund assets in investments abroad that are similar to those traded domestically by the fund.

Trading in these securities, which was long delayed due to disputed language in the original legislation, was an important step forward for the Brazilian hedge fund market. The industry had benefited from a prolonged bull run in emerging markets, increased visibility of BRIC (Brazil, Russia, India and China) strategies and bigger allocations from global managers. Brazilian managers viewed the approval of CVM 450 and 456 as an important step toward continued growth within the region, and the regulations allowed them to take advantage of increased interest among global investors in Latin American exposure.

Since the beginning of 2008, there were no updates to the resolutions and little activity to support its impact. Today, however, there are indicators of reactivation and requests for price quotes for related services. This supports the view that offshore funds are being created as a consequence of the resolution.

The opportunity to invest abroad opens the door to attractive markets that can generate bigger returns and add an increased level of diversification to the funds. It allows managers to trade or hedge without having to attempt to replicate the trade locally. But the new regulations failed to establish the full access to global securities that managers desired, because they came with a number of caveats. For example, in order for a fund to trade an instrument abroad, it must already be trading a similar instrument in the Brazilian market. Yet CVM 450 and 456 did not explicitly define a "similar instrument." That became the biggest sticking point among managers and regulators. It was the primary reason many firms were slow to take advantage of the rules.

By early 2008, the CVM had issued clarification on the language in 450 and 456. Nonetheless, fund managers faced yet another roadblock in the form of taxation requirements imposed on investments abroad by the Receita Federal (the Brazilian IRS). The tax implications on investments abroad, specifically on OTC derivatives, proved significant. The Receita Federal has taken the stance that all money invested by funds in OTC derivatives offshore should be taxed—even if the particular investment results in a loss. Should an offshore swap, for example, lose money, the loss is still taxed as if it were a capital gain. Given local tax rates can top 40%, this can have serious implications.

Another issue addressed by the CVM was the 20% limit placed on fund managers. This is far below the level of access sought by local managers. In response, the CVM issued Instruction 465. It granted 100% access to offshore investments for those funds that accept investments from qualified investors only (qualified investors in Brazil are required to make investments greater than R$1 million) and then only if such funds are clearly defined as "Investimento no Exteriror" (Investment Abroad). Unlike the U.S., U.K. and many other markets, high minimum investment requirements are less common in Brazil, leaving most managers without full access.

About LaCrosse Global Fund Services

LaCrosse Global Fund Services is a provider of operations, middle-office and administration services to managers of complex hedge funds globally. The firm operates in 10 global office locations: Bogotá, Buenos Aires, Caracas, Istanbul, London, Minneapolis, Moscow, New York, São Paulo and Singapore. LaCrosse provides support for a wide range of strategies traded by global portfolio managers covering fixed income, distressed debt, structured credit, foreign exchange, equities, commodities and a full range of related derivatives. For more information, visit

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The Alternative Latin Investor staff is comprised of finance and journalism professionals who create articles through a process of research, data gathering, and industry interviews in order to provide unique content regarding alternative asset investment within the Latin American region.

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