By Huw Jones
LONDON (Reuters) - The European Union's 21 trillion euro ($24 trillion) mutual funds sector faces tighter scrutiny of how it outsources stock picking to asset managers outside the bloc, a draft EU document showed on Thursday.
Asset managers in London manage funds listed in Luxembourg and Dublin, but after Britain's departure from the EU, Brussels worries it will end up with "letter box" entities run from outside the bloc.
The EU's executive European Commission was reviewing the separate rules for alternative investment fund managers like hedge funds, but proposals for reform due to be unveiled next Tuesday show a major widening of its original remit.
"The proposal seeks to achieve a coherent approach to delegation activities by European investment fund managers and supervisors," the draft proposal said.
Different national supervisory approaches to delegation - the outsourcing of stock picking - create inconsistencies that may reduce the overall level of investor protection, it said.
Extra measures are therefore needed to ensure funds have enough staff inside the bloc, it said.
Changes are proposed to both alternative investment funds and mutual funds, known as UCITS, on delegation, liquidity risk management, data reporting for market monitoring purposes and regulatory treatment of custodians, it said.
A UCITS fund would be required to justify its "entire delegation structure based on objective reasons".
The European Commission will also set out conditions for delegation, and on when a fund company in the EU should be deemed a "letter box entity" and therefore remedial action by regulators.
Under the proposals, which will need approval from the European Parliament and EU states, the EU's markets watchdog ESMA would play a central role in oversight of delegation.
($1 = 0.8821 euros)
(Reporting by Huw Jones)