Switzerland is one of the world's leading financial centres. This is true not only for wealth management and investment banking, but also for insurance and re-insurance. For example, in terms of wealth management, it is estimated that Swiss banks have a 30% share of the global cross-border market. Over the last few years, new legislation has been put in place and is still underway to keep up an up-to-date supervisory legal framework.

Switzerland is not bound by European legislation because it is neither a member state of the European Union (EU) nor of the European Economic Area (EEA). This allows Switzerland the autonomy to regulate its financial services industry as it deems fit. Swiss regulation is based on two pillars: (i) supervision of the market actors such as stock exchanges, banks or securities-dealers, with a focus on the secondary market rather than regulating the primary market and (ii) self-regulation.

The primary market is traditionally leniently regulated. The proper functioning of the primary market is supervised by the Federal Banking Commission (FBC) indirectly via the stock exchanges and the market players such as banks and securities-dealers (basically through the proper business conduct requirement) rather than the issuers. Of course, there is a prospectus requirement for the public issuance and offering of shares, bonds, structured products and collective investment schemes, but there is no FBC prospectus approval requirement for public offerings other than for collective investment schemes. Certainly, in the case of a listing at the SWX Swiss Exchange (SWX), a listing prospectus must be prepared in line with the SWX listing rules; however, it is the stock exchange approving the prospectus, and not a state authority.

Further, since the entry into force of the new National Bank Act (NBA) in May 2004 the Swiss National Bank (SNB) is acting as supervisory authority for payment and securities settlement systems.

As a supervisory authority for banks, stock exchanges, securities-dealers and collective investment schemes, the FBC has a broad remit and the power to issue rules and regulations to flesh out legislation. The FBC's decisions are subject to appeal to the Swiss Supreme Court. In the past, there was some criticism from the Swiss finance industry for the FBC's overregulation tendencies. However, in a report of July 2007, the FBC acknowledged the importance of self-regulation and recognised the SWX, the Swiss Bankers Association (SBA), the Swiss Funds Association (SFA) and the Swiss Chamber of Trustees and Auditors (SCTA) as the financial sector's leading self-regulatory bodies. In its report the FBC mentioned that it will examine whether the aim of a regulatory project may be achieved just as well, if not better, through self-regulation, a market-based solution or a case-by-case approach. Additionally, the FBC does not regulate in areas where the statutes provide exclusively for self-regulation. However, the statutes often require FBC approval of such self-regulations. One illustrative example for this is the exclusive self-regulatory powers granted to Swiss stock exchanges under the Stock Exchange Act (SESTA). Stock exchanges are required, when drafting rules and regulations for the admission of securities, to take internationally accepted standards (including, but not limited to, EU standards) into consideration. In contrast to the EU or the US, the SWX not only recognises one single set of accounting standards for listings, but various, namely IFRS, US GAAP and the accounting principles of other countries such as Australia, Brazil, Canada, Japan or South Africa. The rules and regulations of the stock exchanges are subject to FBC approval. This regime gives them flexibility to react on market developments in a globally competitive environment.

This self-restraint in the issuance of regulations will of course not prevent the FBC from taking action to ensure the proper functioning of the market and investor protection, while also evolving to keep abreast of international developments. It has become clear that before any new regulation is issued, all the above elements should be considered. This often leads not only to intense discussions, checks and balances, but also to risks of slowing down the legislative process. We shall go on to describe the latest and ongoing reform projects and illustrate how the Swiss legislature and the various regulators cope with these challenges.

Cross-border services

The Swiss regulatory regime is still based on the principle of territoriality. Because Switzerland is not a member of the EU or of the EEA, the passporting of regulated activities under EU legislation is neither available in Switzerland nor necessary. Foreign (and Swiss) financial service providers will fall under the scope of Swiss financial services regulation if their activity is: (i) a regulated activity according to Swiss law; and (ii) Switzerland has regulatory jurisdiction. Foreign financial service providers only fall within the reach of the Swiss jurisdiction and need a licence if they have people (employees or representatives) or physical infrastructure in Switzerland, or perform organizational or managerial functions in Switzerland. Consequently, mere cross-border activities are not subject to FBC supervision and licensing. This is true even if the services are specifically directed at (potential) customers in Switzerland. The same generally applies to foreign payment and securities settlement systems as to SNB supervision. However, there are two important exceptions: cross-border insurance business and collective investment schemes, as explained below.

Revised insurance supervision

A completely revised Insurance Supervisory Act (ISA), together with an implementing ordinance, and a partially revised Insurance Contract Act (ICA), entered into force on January 1 2006. The ICA is designed to improve the protection of the assured. The ISA applies to: (i) Swiss insurance and reinsurance undertakings, (ii) foreign insurance undertakings with respect to their insurance activity conducted in or from Switzerland and (iii) insurance intermediaries. Moreover, it sets out notification and approval requirements for: (i) the acquisition or divestment of significant shareholdings in insurance undertakings, (ii) mergers, demergers and conversions of insurance undertakings and (iii) non-insurance activities by insurance undertakings. The insurance regulator remains, for the time being, the Federal Office of Private Insurance (FOPI). With the new Swiss Solvency Test (SST), the ISA has introduced new minimum capital and solvency rules. The SST is a risk-based model, which has been meanwhile followed by the EU with its own solvency model, Solvency II. The ISA, however, has not established the freedom of cross-border insurance business.

Consolidated supervision of conglomerates

While the ISA has introduced supervision on insurance groups (in most cases a group of insurance undertakings) and insurance conglomerates (a group predominantly active in insurance but also active in banking or securities dealing), the Banking Act (BA) and its implementing ordinance have been revised to introduce the supervision of financial groups (in most cases a group of banks or securities-dealers) and financial conglomerates (a group predominantly active in banking or dealing in securities but also active in insurance).

Basel II

In June 2004 the Basel Committee on Banking Supervision approved the new capital measurement and capital standards regime Basel II. The Swiss Basel II regime entered into force on January 1 2007 and covers credit risk, market risk and operational risk, whereas the old Swiss Basel I regime did not cover operational risk.

As a rule, a Swiss bank must, on a single entity basis and on a consolidated basis, comply on a continuous basis with the Swiss regulatory capital requirements. In essence, according to black letter regulation, eligible capital (that is, tiers one to three capital) must amount to at least 8% of the sum of the risk-weighted positions, the market risk requirements plus operational risk requirements. The FBC will continue to require that Swiss banks exceed this 8% threshold ratio by 20% (that is from 9.6% to 10% as total regulatory capital). Otherwise, they will be closely scrutinised as to their compliance with the regulatory capital requirements.

The new provisions allow banks to apply one of the following calculation methods to credit risk factors:

• the Swiss standard calculation approach (mainly for Swiss banks);
• the international standard calculation approach (mainly for listed banks or Swiss banking subsidiaries of foreign banking groups); and
• the basic or advanced internal-risk-based (IRB) approach (mainly for large banks).

The use of the IRB approach is subject to prior FBC approval.

As to credit-risk weighting, the weighting factor of a Swiss bank's counterparty or guarantor mainly depends on its rating.

With respect to secured or guaranteed transactions, the bank may calculate the risk factor using:

• the substitution approach (under which the guarantor's rating will be substituted for the counterparty's); or
• the overall approach (under which the position of the counterparty will be set off with the value of the collateral or guarantee).

Banks have to comply with the regulatory capital and risk diversification regime both on a single-entity and on a consolidated basis. Under the new regime the FBC has the power to permit a bank to pre-consolidate a subsidiary with which it has very close relations in refinancing or investment. This solo consolidation results in relaxations as to regulatory capital and risk diversification requirements on a single-entity basis because the subsidiary is treated like a branch and no longer as a third party. To date, only very few banks are permitted by the FBC to apply solo consolidation.

New regime on collective investments schemes

The new Collective Investments Schemes Act (CISA), which has superseded the old Investment Funds Act (IFA), has entered into force on January 1 2007. This legislation is an important step forward for the Swiss fund industry and aims to increase its competitiveness. Additional investment schemes have been introduced, particularly the investment company with variable capital (following the pattern of the Luxembourg SICAV), the limited partnership for collective capital investments (LP, comparable to the Anglo-Saxon limited partnership) as well as the investment fund for qualified investors and the single-investor fund. Closed-ended investment companies (SICAFs) are subject to the CISA only if they are either (i) not listed on a stock-exchange or (ii) not limited to qualified investors. This is the result of intense parliamentary debate. Thus, listed investment companies are not subject to the CISA and need no FBC approval.

Distributing of foreign investment schemes in Switzerland

Whereas all Swiss collective investment schemes are subject to FBC approval requirements, foreign investment schemes need only FBC approval in case of public distribution in Switzerland. Such public offerings require approval by the FBC of the collective investment scheme as well as authorization of the distributor. One approval condition among others is that the collective investment scheme will be subject to home country supervision. The effect of this is that, in contrast to the old IFA, foreign investment schemes that are not subject to any home country supervision (because the home country legislation does not provide so) are not approvable by the FBC and thus are not publicly distributable in Switzerland.

No approval is required for private placements. Most importantly, marketing is not deemed to be public if it is directed exclusively towards qualified investors (in the meaning of the CISA) by way of customary marketing methods. In September 2007 the FBC has issued the revised Circular on the Public Marketing of Collective Investment Schemes, which will enter into force on October 1 2007. Under the Circular the following entities and persons qualify as qualified investors:

• regulated financial intermediaries such as banks, securities-dealers, fund management companies and asset managers of collective investment schemes;
• regulated insurance institutions;
• public entities and retirement benefits institutions with professional treasury operations;
• companies with professional treasury operations;
• high-net-worth individuals holding directly or indirectly financial investments of at least CHF2 million ($1.7 million); and
• independent asset managers and investors who have concluded a written agreement with an independent asset manager, if:
  (i) the asset manager is a financial intermediary under the Anti Money Laundering Act (AMLA) and has thus to comply with the respective anti-money-laundering rules;
  (ii) the asset manager is subject to the conduct rules of an industry organization which are recognised by the FBC as minimal standards; and
  (iii) the discretionary asset management agreement complies with the guidelines of an industry organization.

Furthermore, no marketing occurs if an investor wishes to invest in a collective investment scheme on his own initiative (pull, rather than push, activities). On the other hand, the private placement carve-out, whereby the investment scheme was freely distributable to up to 20 investors, has been abandoned.

Private equity and hedge funds

The LP has been specially designed for private equity investments. It is structured around the corporate law regime that applies to the Swiss limited partnership. Under the CISA the LP qualifies as a closed-ended investment scheme, meaning that investors will not be entitled to request at any time the redemption of their interest in the LP at its net asset value. As for Swiss limited partnerships, the LP will consist of an agreement between a general partner with unlimited liability and the limited partners. The general partner shall always be a Swiss corporation (société anonyme or Aktiengesellschaft). It will be exclusively responsible for the management of the LP but will be authorized to delegate some of its functions. The limited partners' responsibility will be limited to the amount of their investment in the LP. They must be qualified investors in the meaning of the CISA.

Because of the liberal regulatory frame for the LP and its flexibility in regard to the structure of the investments and the fulfilment of the limited partners' commitments, the LP may also be attractive for closed hedge funds. For open hedge funds, the forms of the investment fund or the SICAV are available. Notably, in its white paper of September 2007 on hedge funds the FBC has confirmed that it permits all services linked to the settlement of the transactions for single-strategy hedge funds to be performed by the hedge fund's prime broker.

Asset managers and investment advisers

Independent asset managers and investment advisers have traditionally not been subject to any supervision, apart from anti-money laundering regulation. However, the CISA has introduced a new FBC licensing requirement for Swiss and foreign asset managers of Swiss investment schemes. Swiss independent asset managers managing foreign funds such as Ucits funds have the option to apply for an FBC licence. This option has been introduced in reaction to the entry into force of the EU Ucits III Directive to maintain the competitiveness of Swiss asset managers and to allow them to continue to manage Ucits funds. This is a limited supervision on asset managers. Apart from this, independent asset managers and investment advisers are not regulated.

Financial Market Supervision Act

In June 2007, the Swiss Parliament passed the draft of the Financial Market Supervision Act (FMSA), which is expected to enter into force as per January 1 2009. The FMSA will merge the FBC, the FOPI and the Federal Control Body for the Prevention of Money Laundering into one integrated supervisory authority, the Financial Market Supervisory Authority (Finma). Although embodied in a new structure benefiting from better allocation of human resources and more comprehensive supervision of the entire Swiss financial markets, the Swiss supervisory framework as such will remain basically unchanged. However, a new sanctions regime for the entire financial industry will be set forth, which harmonizes, streamlines and fine-tunes the sanctions in the various financial market statutes by introducing revised penal provisions and administrative sanctions, such as the suspension of professional activities or confiscation. The authorities responsible for imposing such sanctions will remain the Federal Department of Finance and the Federal Criminal Court.

Author biographies

Mark-Oliver Baumgarten Staiger, Schwald & Partner Mark-Oliver Baumgarten is a partner in Staiger, Schwald & Partner's corporate finance department and heads the banking, finance and capital markets team. He regularly advises companies and financial institutions on banking, finance and capital markets law including collective investment schemes law. He studied law at the University of California, Berkeley (Boat Hall, 1990) and the University of Basel (first degree 1992, doctorate 1995) and obtained a Masters in Law from the University of Pennsylvania. Baumgarten is a member of the specialist committee Products and Operations of the Swiss Funds Association (SFA) and an authorized representative at the SWX Swiss Exchange. He is a member of the Swiss Bar. Désirée Wiesendanger Staiger, Schwald & Partner Désirée Wiesendanger is an associate with Staiger, Schwald & Partner's corporate finance department. She regularly advises companies and financial institutions on financial services regulation and capital markets law, including collective investment schemes law. Before joining Staiger, Schwald & Partner she was in-house counsel with a Swiss bank. She studied law at and obtained a Masters in Law from the University of Zurich. Désirée Wiesendanger is a member of the Swiss Bar.