Minutes from the FSA’s board meeting in April revealed the regulator remained unsure about whether to proceed with its proposed £110m Arch cru redress scheme. The board needs to hear a “convincing case” following the consultation which closed last week.
Reading many of the responses to the FSA’s consultation paper it is difficult to conclude that a persuasive argument has been made by the regulator. Quite the opposite.
Anyone who has criticised Aifa for failing to take a combative approach against the FSA in the past may want to read the trade body’s response to the FSA’s proposals.
Evidence submitted by Aifa and others casts doubt on whether the requirements for such a redress scheme, the first of its kind, have been met. Worryingly, there is concern that data gathered on a small cross-section of firms which sold Arch cru has been misused by the regulator in an attempt to justify a scheme that requires “widespread or regular failure” to proceed.
The redress scheme consultation also raises serious questions about the FSA’s use of hindsight regulation, while the regulator has so far failed to explain the rationale behind its voluntary £54m capped redress package, funded by Capita, HSBC and BNY Mellon, and why it was agreed before a decision on the IFA redress scheme consultation and with investor losses still uncertain.
Finally, and perhaps most importantly for many advisers, there are major concerns about the wider impact of this scheme on the IFA sector as a whole through extra FSCS costs and a hardening of the PII market.
Did the FSA exaggerate the figures?
This would be the first time the regulator has implemented a 404 scheme, based on new powers it received in 2010. One test that needs to be applied before such a power can be actioned is ensuring a “widespread or regular failure” has taken place.
The FSA’s headline figures suggest 795 firms sold Arch cru with up to 20,000 customers affected.
However, as reported on the front page of Money Marketing last week, the statistician’s report, published as part of the FSA’s consultation, estimates that out of this list only 321 sold Arch cru, with a plausible range of between 230 and 412 firms based on statistical error.
After analysing 179 files from 24 of the estimated 321 firms it was found that 82 per cent of firms “substantially misold” Arch cru (ie at least a third of sales were considered missales). Allowing for statistical error the “substantial” misselling rate ranges from 57 per cent to 94 per cent.
Based on the files assessed it is estimated that 11,800 consumers could be affected, with a range of between 7,500 and 14,100.
Aifa estimates that, based on the sample, over half of cases come from three firms and 90 per cent of cases come from a third of the sample, calling into doubt the FSA’s view that Arch cru sales were not heavily skewed towards a small number of bigger firms.
In its official response, Aifa hits out at the FSA’s “misuse of the data to misrepresent basic facts”.
It speculates whether this was “due to not understanding the statistical analysis” or “from a deliberate attempt to create a misleading impression to endeavour to support a conclusion that has already been made by officials”. Strong stuff.
Given the big difference between the headline grabbing figures and the real estimates, it is fair to ask whether this exaggeration of the data was driven by the desire to portray “widespread” misselling.
Risk analysis and the cause of client loss
Many responses to the FSA’s consultation have queried the FSA’s analysis that all sales into the fund range can be labelled high risk and the regulator’s view on the overriding cause of consumer loss.
IFA Centre’s response highlights the FSA’s refusal to acknowledge that even if the funds were high risk they may have formed part of a balanced portfolio which still met the client’s objectives. It appears that in such cases compensation would be required even if the overall portfolio made a decent return.
The view that all Arch cru sales were high risk suggests a dangerous use of hindsight regulation which fails to take account of concerns around the quality of disclosure material and the possible outcomes of ongoing legal action against those managing the range.
The implications of the scheme for the IFA sector
The redress scheme would have a big impact on all adviser firms due to the extra FSCS costs triggered and the hit PI insurers are likely to take which will once more test their appetite to insure the sector.
Aifa estimates that PI insurers make around £40m from the advice sector annually. A number of big names have already left the IFA PII market recently. If insurers are forced to shoulder a considerable part of the £110m redress scheme it is likely to lead to further exits and higher premiums.
There will be plenty of advisers who will not be covered by insurance, due to exclusions in their policies. The FSA estimates that up to 30 per cent of firms which recommended Arch cru and are still authorised could be forced into default, triggering FSCS payments of up to £33m. SimplyBiz warns that few advisers are likely to be covered, based on research of 63 member firms, and suggests the FSCS bill will be much higher.
Before this scheme was announced the FSCS had already factored in costs of £40m relating to Arch cru, so it appears likely that the IFA sector will pay out more in compensation than the £54m compensation scheme funded by the fund range’s ACD Capita and depositories HSBC and BNY Mellon. This does not seen right.
The FSA has yet to give an explanation as to why Capita and the two depositories were able to negotiate a deal which caps the amount they will have to pay back to investors at £54m before the total cost of investors’ losses have been established. The estimated amount to be returned to investors from residual assets has fallen twice since the the voluntary scheme was agreed, therefore increasing the potential IFA bill.
Too many questions marks
Is there a better and more cost effective way of ensuring consumers get the compensation they deserve?
Given the implications of the scheme for the IFA sector and real question marks over both individual adviser liability and whether the Arch cru scandal constitutes widespread misselling, a better option would be for the FSA to deal with firms on a case-by-case basis, starting with larger firms with most exposure.
The redress scheme proposals appear to be a rushed and heavy handed response to political pressure, supported by shaky statistics, which threaten to destabilise the entire IFA sector. In other words, a convincing case has not been made.
Paul McMillan is group editor of Money Marketing- follow him on twitter here