With the FSA’s initial thoughts on the retail distribution review only a week away from publication, there are already indications that it is likely to affect what products can be sold through what channels. Funds that utilise Ucits III powers, such as vehicles that use derivatives to a high degree, may get caught up in the review unintentionally.
Restricting products to particular channels is not necessarily a new concept for the UK retail market. Under Mifid, products are designated complex or non-complex, with the former unable to be sold on an execution-only basis. Ucits funds are exempt or considered non-complex under Mifid and can be bought direct. This includes all types of collective investment funds (excluding qualified investor schemes), including those adopting derivative strategies.
However, that is Mifid in isolation. There are a number of other factors that feed into the issue of who a fund should be sold to, as well as regulations impacting on this area.
A few years ago, the definition for types of investors changed. As part of this, providers of Ucits funds must outline the client base for which a specific fund is targeted. For example, a high minimum investment provides a clear outline for the customer base.
With a £100,000 minimum investment, a fund is obviously not aimed at the average retail investor. In other cases, consumers must acknowledge their status before they can buy a specific fund.
Credit Suisse director of product investment solutions and marketing Toby Hogbin notes that on top of these concerns are the issues of treating customers fairly as well as ongoing discussions in Europe concerning the appropriate disclosure of risk in a product.
It is the European regulatory aspect as well as the ongoing adoption of Ucits III and Mifid in various jurisdictions that is leading some UK firms to designate portfolios, particularly those sold into Europe, as sophisticated. This is despite the fact that in pure UK regulatory terms, there is no requirement to do so. At least for now.
City Financial Investments chief executive Rob Hain points out that groups must follow different rules depending on the jurisdiction a fund is being sold into but these rules all have one underlying concern – to protect the end consumer or the average investor.
Hogbin says the convergence of regulatory threads is forcing groups into two approaches – wait and see or pre-empt. The problem with trying to label a fund pre-emptively as sophisticated or complex is that one person’s definition of sophisticated may be simple to another. Hogbin says this could lead to inconsistencies in fund descriptions and cause more confusion than clarity.
Hain points out that the use of derivatives within a fund is often aimed at reducing risk but some can interpret their use as indicating a more sophisticated product than a straight equity portfolio.
Bringing this all to the forefront again is the retail distribution review. Most anticipate that the FSA will resurrect its concept of a tiered advice system and retail policy director Dan Waters outlined that fact in a recent speech. He said: “There is a strong desire for the market to be segmented according to the nature of services supplied. It has been suggested that a wider range of services may be more appropriate in today’s world, with advisers differently skilled but suitably qualified according to the services supplied.”
Waters said this would probably start with fully-fledged financial planners offering advice typically to the higher end of the market where complex portfolio advice is needed, through advisers operating at a more transactional level for consumers who have more focused and possibly less comprehensive portfolio requirements, to those advising on simpler products through some kind of simplified advisory process. A generic advice service would also be widely available.
More colloquially, it is believed that the FSA will separate whole-of-market advisers who are fee-based from those remunerated through commission, with the latter sitting at the simple products level and facing possible advice or product restrictions.
What remains to be seen is how a simple product will be defined. Considering the FSA’s desire to be more uniform with EU regulations, will this definition be in accordance with rules such as those under Mifid, which would restrict any complex product from being sold on an execution-only basis?