Author: Yagmur Zeytinkaya
The portfolio management companies (“PMC”) that are defined under Article 55 (Portfolio Management Companies) of Capital Market Law numbered 6362 (“CML”) are joint stock companies whose main activity is the establishment and management of investment funds. Portfolio management can be defined as “managing portfolios consisting of capital market instruments (...) and other assets and transactions approved by the Capital Markets Board ("Board") acting in the capacity of a proxy within the framework of the portfolio management agreement to be entered into with customers in line with the risk-return preferences to be determined by the investor or the portfolio manager.[1]” As the capital markets in our country and in the world reach a certain level of development, the investors tend to seek professional support for the management of their assets and, therefore, apply to PMCs. This newsletter article reviews the basic legislation on PMCs, portfolio management agreements and liability of the damages arising from the portfolio management.
Legislation on PMCs; Establishment and Activities of PMCs
Article 55 (Portfolio Management Companies) of the CML regulates the fundamental matters on PMCs. Moreover, Communiqué on Principles Regarding Portfolio Management Companies and Activities of Such Companies numbered III-55.1 (“Communiqué numbered III-55.1”) and Communiqué on Principles Regarding Investment Services, Activities and Ancillary Services numbered III-37.1 (“Communiqué numbered III-37.1”) are also significant in relation to this matter.
The first remarkable subject under Article 55 of the CML is the requirement to obtain permission from the Board for the establishment and operation of PMCs. Pursuant to Article 43 (Establishment Conditions) that shall be applied to PMCs by analogy, the PMCs shall be established as joint stock companies, all of their shares shall be registered, their capital shall not be less than the amount that has been determined by the Board,[2] and their shareholding structure shall be transparent. Moreover, pursuant to Article 44 (Conditions for Founders) that shall be applied to PMCs by analogy, the founders shall not be bankrupt, have not declared composition with creditors, and must not have a finalized sentence due to the crimes set forth under the CML.
The main activities of PMCs, which have obtained the Board’s approval by fulfilling these conditions, are establishing and managing investment funds. Investment funds are defined under Article 52 (Investment Funds) of the CML as “The asset that is established by PMCs in conformity with the fiduciary ownership principles on the account of the savers, with money or other assets gathered from savers pursuant to the provisions of the CML in return for fund units, in order to operate the portfolios consisting of instruments and rights determined by the Board, and which have no legal personality.” The PMCs shall represent, manage or control the funds by protecting the rights of the savers. Pursuant to Article 53 of CML (Segregation of Fund Assets), the assets of the fund are segregated from the assets of the PMC.
The PMCs may provide portfolio management services in addition to establishing and managing investment funds. Pursuant to Article 37 (Investment Services and Activities) of the CML, portfolio management is deemed as an investment service. PMCs are exclusively authorized to establish and manage investment funds. However, under Article 38 (Authorized Institutions that may provide Individual Portfolio Management Services) of Communiqué numbered III-37.1, portfolio management services may be provided by intermediary institutions and investment and development banks, as well.
Portfolio Management Agreements
At the basis of the portfolio management contract, or the contract of mandate for the portfolio management, lies the trust of the investor in the PMC that undertakes the management. For this reason, portfolio management is deemed as a fiduciary assignment in terms of its legal nature. Simply, the portfolio management agreement is a written agreement that includes the management of the portfolio, which the client has transferred to the PMC, to be managed with the duty of care and loyalty.[3]
The subject of the portfolio management agreement is the management of the client's money and the capital market instruments that have been bought and sold on behalf of the client for their benefit, and the payments to be made by the client in return. There are various opinions on the legal nature of the portfolio management agreement. One opinion considers the portfolio management company as a mixed contract.[4] Another opinion considers this agreement as a “performance contract based on proxy.[5]” According to the declarations of the Board, whereas the PMC provides for the management of the customer's assets and consulting for profitable investments, the portfolio management agreement may be accepted as a contract of mandate.
In order to overcome the problems encountered during the pandemic, Article 42 (Principles Regarding Financial Liability Limits and Employees and To Be Concluded with Customers Contracts) of the CML has been amended to allow the execution of the agreements between the PMC and its customers as a written or distance contract by using remote communication instruments, or by methods that the Board determines such method may replace the written form, and which will be carried out over an information/electronic communication device, and that may verify the customer identity.
With regard to individual portfolio management, an expediency test shall be applied to the clients and the compatibility between their investment purpose and financial status, as well as their knowledge and experiences. Accordingly, the PMC determines the risk preferences and requirements of the client before starting with the portfolio management. According to the risk preference, the portfolio manager shall put their best efforts forward to maximize the profitability of the client. Under Article 42 (Framework Agreement for Individual Portfolio Management) of Communiqué numbered III-37.1, a written framework agreement that contains the essential provisions determined by the Board shall be executed.
Liability of Portfolio Management
In cases where there is no provision in the CML, the relevant legislation, and the fund internal regulation, the provisions regarding the contract of mandate in Turkish Code of Obligations numbered 6098 shall be applied by analogy to the relations between the PMC and the savers. Moreover, pursuant to Article 55/6 of the CML, the PMCs are obliged to protect the interests of the funds under their management, the savers, and other customers, while carrying out their activities. Similarly, pursuant to Article 21 (Principle of Professional Care and Diligence) of Communiqué numbered III-55.1, the managers and the employees of the PMC must show the necessary professional care and diligence in their work and decision-making.Care and diligence express the importance, attention, and effort that a careful and prudent person will give to the details under the same conditions. However, under Article 41 (Principles and Rules on the Activity of Individual Portfolio Management) of Communiqué numbered III-37.1, it is explicitly prohibited for PMCs to guarantee any income.
Pursuant to Article 34 (Portfolio Management Agreement) of Communiqué numbered III-55.1, the PMC is directly liable to the client for all of the transactions that breach the contract, internal statute, prospectus, articles of association, capital market legislation and general provisions, and those which have been carried out by the portfolio managers specified in the agreement, as well as any damages they may inflict on their clients due to their acts that are contrary to the duty of care and loyalty. No contrary provision may be regulated in the portfolio management agreement.
Conclusion
Due to the development of capital markets, the investors tend to seek professional support for the management of their assets and, therefore, apply to PMCs. The main activities of PMCs are to establish and manage investment funds and provide portfolio management services. The legal nature of a portfolio management agreement is deemed as a contract of mandate. Therefore, PMCs are obliged to protect the interests of the funds under their management, the savers, and other customers while carrying out their activities. PMCs cannot guarantee any income. However, PMCs are directly liable to the client for all transactions that breach the contract, internal statute, prospectus, articles of association, capital market legislation and general provisions, and which have been carried out by the portfolio managers specified in the agreement, as well as any damages they may inflict on their clients due to their acts that are contrary to the duty of care and loyalty.
[1] https://spk.gov.tr/Sayfa/AltSayfa/447 (Access Date:23.02.2021)
[2] Pursuant to Article 5/ç of the Communiqué on Principles Regarding Portfolio Management Companies and Activities of Such Companies, this amount has been determined as TRY 2,000,000.
[3] https://spk.gov.tr/Sayfa/AltSayfa/447 (Access date: 23.02.2021).
[4] Yıldırım, Ayşe Hümay: Portföy Yönetim Sözleşmesi, İstanbul, 2008, s. 35.
[5] Yıldırım, s. 46.
