The iff and the ECRC network have stressed that products need to be of high quality if consumer protection is to be ensured. Payment protection insurance was a classic example of a product unfit for purpose, not only because it was missold via banks on a massive scale due to dangerous incentives but because of its product features as well as its disrespected target market. Now ESMA is consulting on its draft guidelines for product governance until 5 January 2017. Focus on the target market is a good start and we welcome the obligation for firms to take responsibility for products throughout their lifecycle but can we not also establish basic fundamental minimum criteria that financial products should meet?  

On 5.10.2016 the European Securities and Markets Authority (ESMA) opened a consultation on product governance guidelines under the Markets in Financial Instruments Directive (MiFID II) regarding the target market assessment by manufacturers and distributors of financial products. We welcome the desire to enhance investor protection by regulating all stages of the life-cycle of products or services in order to ensure that firms which manufacture and distribute financial instruments and structured deposits act in the clients’ best interests.

The website says: “This Consultation Paper is primarily of interest to competent authorities and firms that are subject to Directive 2014/65/EU of the European Parliament and of the Council1 (MiFID II). In particular, this paper is addressed to investment firms and credit institutions performing investment services and activities and their staff; especially, firms which manufacture financial instruments or structured deposits for sale to clients as well as the firms which distribute them. This paper is also important for trade associations, investors, and consumer groups, because the guidelines seek to implement enhanced provisions, to ensure investor protection with potential impacts for anyone engaged in the dealing with or processing of financial instruments.” 

Extracts from the letter:

These requirements cover arrangements for:
1. firms to adopt when manufacturing products (product governance obligations for manufacturers); and
2. firms to adopt when deciding the range of products and services they intend to offer to clients and when offering or recommending such products to clients (product governance obligations for distributors).

The proposed guidelines address issues specific to manufacturers and distributors as well as issues common to both.

Topics for Manufacturers

• Identification of the potential target market by the manufacturer: categories to be considered;
• Identification of the potential target market: differentiation on the basis of the nature of the product manufactured; and
• Articulation between the distribution strategy of the manufacturer and its definition of the target market.

Topics for Distributors

• Identification of the target market by the distributor: categories to be considered and differentiation on the basis of the nature of the product distributed;
• Identification and assessment of the target market by the distributor: interaction with the provision of different investment services;
• Regular review by the manufacturer and distributor to respectively assess whether products and services are reaching the target market;
• Distribution of products manufactured by entities not subject to the MiFID II product governance requirements; and
• Application of product governance requirements to the distribution of financial instruments manufactured or issued before the entry into application of MIFID II.

Transversal issues applicable to both manufacturer and distributor

• Identification of the negative target market by the manufacturer and distributor – clients for whom the investment products they manufacture and/or distribute are not compatible; and
• Application of the target market requirements to investment firms dealing in wholesale markets (i.e. with professional clients and eligible counterparties).

Next Steps:  The consultation closes on 5 January 2017. ESMA will consider the feedback it receives to the consultation in Q1 2017 and expects to publish a final report in Q1/Q2 2017.

Summary of questions

Q1: Do you agree on the list of categories that manufactures should use as a basis for defining the target market for their products? If not, please explain what changes should be made to the list and why.
Q2: Do you agree with the approach proposed in paragraphs 18-20 of the draft guidelines on how to take the products’ nature into account? If not, please explain what changes should be made and why.
Q3: Do you agree with the proposed method for the identification of the target market by the distributor?
Q4: Do you agree with the suggested approach on hedging and portfolio diversification aspects? If not, please explain what changes should be made and why.
Q5: Do you believe further guidance is needed on how distributors should apply product governance requirements for products manufactured by entities falling outside the scope of MiFID II?
Q6: Do you agree with the proposed approach for the identification of the ‘negative’ target market?
Q7: Do you agree with this treatment of professional clients and eligible counterparties in the wholesale market?
Q8: Do you have any further comment or input on the draft guidelines?
Q9: What level of resources (financial and other) would be required to implement and comply with the Guidelines (market researches, organisational, IT costs, training costs, staff costs, etc., differentiated between one off and ongoing costs)? If possible please specify the respective costs/resources separately for the assessment of suitability and related policies and procedures, the implementation of a diversity policy and the guidelines regarding induction and training. When answering this question, please also provide information about the size, internal organisation and the nature, scale and complexity of the activities of your institution, where relevant.