The FSA’s recent proposals to reform the Financial Services Compensation Scheme cannot be seen as anything but ludicrous. Fund managers last year had to pay out £230m in compensation to investors who had invested in bonds issued in Luxembourg, backed by a life-settlement portfolio. It was not fund managers who manufactured the bonds. It was not fund managers who sold the bonds. It was fund managers who had to pay compensation to investors in those bonds when they went belly-up. These bills of more than £10m for some individual fund managers were completely out of left field and manifestly unjust, so it is no surprise the industry has since been lobbying for reform of the FSCS.
Our starting point has always been that consumers must be compensated in full, that is not in dispute. What is in dispute is how that should be paid for and who should pay. The fund management industry has argued for the principle of affinity to be at the heart of any reform of the scheme. Put simply, those firms most closely related to the product in question should pay any compensation arising as a result of product failure and those guilty of misselling should pay the price.
Instead, the FSA has continued to allow a situation where those liable for compensation have no affinity whatsoever with the product whose failure they are paying for. If we were talking about a similar situation in the vehicle industry, it would be akin to making Ford compensate Suzuki customers for a manufacturing fault in motorbikes, just because they are vehicle manufacturers. How fair would that be?
As we have seen, this is a live issue and it looks likely to remain so. It is well known there are other product failures in the pipeline and these are likely to need bailing out out by fund managers once again. And it is not just fund managers who will suffer, as IFAs will also be expected, unfairly, to bear the costs of unrelated failures.
The proposals are inequitable as they will expose fund managers to bear the brunt of failures for products that are nothing to do with them. Any excess compensation due for future misselling of insurance or structured products, once the intermediaries involved have paid up to their maximum share, will fall squarely on fund managers. Insurers and banks who manufactured these products will get away scot-free.
The problem has partly arisen due to the split of the scheme across the two new regulators, the Prudential Regulatory Authority and the Financial Conduct Authority. Insurance companies and banks are to be regulated by the former and fund managers by the latter, along with all intermediaries, so any excess compensation due from intermediaries spills over to fund managers who are the only ones left in that part of the scheme. This ignores the simple fact the other firms in the other part of the scheme manufactured those products. So it is to be a scheme based on convenience according to which firms happen to be regulated by which regulator.
Surely the best brains at the FSA can employ a bit of creativity in the interests of fairness.
Mona Patel is head of communications at the Investment Management Association