ECRC attended the opening sessions of the Eurofi Financial Forum 2010 in Brussels on 28 September 2010. Below are some comments from these sessions. Monique Goyens from BEUC was the only speaker from among the many experts invited that represented the consumer/ user perspective on retail investments. Below are some views expressed by the speakers and some additional information on the 'Key Investor Information document’ (KID) as well as some links to relevant research on the subject.

Eurofi is a European think tank dedicated to financial services, with the aim of helping to build a fluid, efficient and secure EU Single Capital Market. The programme: www.eurofi.net/pdf/2010/Eurofi_Brussels_Prog_2010.pdf

Improving retail investor protection

11:30 - 13:00 Parallel Session [06]:

Speakers: Jean-Paul Servais: Chairman, the Banking Finance and Insurance Commission (CBFA); Ugo Bassi: Head of Unit Asset Management, DG Internal Market & Services, European Commission; Emmanuel Constans: President, Comité Consultatif du Secteur Financier (CCSF), Banque de France; Xavier Cognat: Head of Brussels Office, Economic, Finance and International Affairs, Fédération Française des Sociétés d'Assurances (FFSA); Bernard Coupez: Head of Regulatory Affairs, BNP Paribas Investment Partners; Thierry Francq: Secretary General, Autorité des Marchés Financiers (AMF); Monique Goyens: Director General, The European Consumers’ Organisation (BEUC); Timothy Hailes: Managing Director & Associate General Counsel Structured Products Practice, JP Morgan; Malcolm Harbour: MEP and Chairman, Committee on the Internal Market and Consumer Protection, European Parliament; Robert Higginbotham: Chief Executive, Fidelity International Ltd European Operations; Jean-Paul Mazoyer: Chief Operations Officer, Amundi; Jacqueline Minor: Director, Consumer Affairs, DG SANCO, European Commission; Károly Szász: Chairman, Hungarian Financial Supervisory Authority; Carlos Tavares: Chairman, Committee of European Securities Regulators (CESR); Victoria Raffé: Head of Prudential Insurance Policy, Financial Services Authority (FSA); Karel van Hulle: Head of Unit Insurance and Pensions, DG Internal Market & Services, European Commission

Questions for the session:

• What role does investor protection play in financial stability and ensuring investor confidence?
• What issues were revealed by the financial crisis? What are the priorities for improving retail investor protection within the EU? What are the main needs expressed by retail investors?
• What legislative approach should be favored? Is a horizontal legislation, as envisaged in the PRIPs (Packaged Retail Investment Products) communication, the right way forward and what scope should it cover in priority? How to avoid overlaps and inconsistencies between a new horizontal legislation and existing sectoral or domestic legislations? How to build on best practices of existing legislations such as MiFID and the IMD?
• How to adapt investor protection rules to the variety of products and distribution channels concerned? Should EU product regulation be completed?
• How to bring a relevant customer perspective into the preparation of the PRIPs legislation?

Discussion:

Jacqueline Minor (DG SANCO): Explained the context of consumer policy behind investor protection initiatives. There is evidence that the market is not performing well for consumers: 1) Complex products and continuous innovation over time; 2) Shift in responsibilities from the State to the individual (own provision for old age) means that their challenges are becoming greater; 3) Financial literacy (e.g. numeracy skills) is not keeping pace with innovation. She said that Pre-contractual information is crucial, that UCITS factsheet was a good benchmark but that advice was an area that was much more difficult to fix (transactions are incentive driven rather than suitability driven). SANCO is undertaking a mystery shopping exercise to see if advice being received is adequate. Findings will be presented at a behavioural economics conference on 22 November 2010

Ugo Bassi (DG MARKT): Explained PRIPs and the importance of comparability and choice (based on investor profile).Commission is entering the delivery phase of the project. PRIPs is still high on the EC agenda (even if the post crisis agenda has led to chronological priorities). Attitude to consultation has shown that it is difficult to find a balance. Information duties may require a Directive or regulation. New horizontal rules extended to products with elements of financial engineering is made difficult because adjustments need to be made for specific products. The UCITS KID will be used and imported as a benchmark. The MiFID and IMD review will help e.g. with dealing with conflicts of interest. Objectives of PRIPs are clear but legislative procedures are complicated. One question is how to ensure that a horizontal approach takes into account the specificities of the different investment products covered by PRIPs:

• Regulation needs to better match the risks to retail investors. Current regulation is largely sectoral in approach, and the nature and extent of consumer protection measures vary.
• PRIPs work will build on existing requirements. Same core principles should apply to both sales and pre-contractual information.
• While information should be better standardised, the detailed requirements will still need to vary (e.g. because PRIPs vary in their features, rules on conduct of sales will need to vary).
• Establishing a balance between convergence and necessary differences will be difficult. However, because a new framework is likely necessary for pre-contractual disclosures, this will draw on and supersede the best of what already exists.
• In the area of sales rules it is more proportionate instead to further develop existing legislation (the IMD and MiFID). Review of MiFID and the IMD and PRIPs is planned end 2010.

Malcolm Harbour (MEP, IMCO): Started by saying that the financial reform bill and creation of ESMA included a last minute addition regarding information on consumer protection (Article 6A, see Omnibus Directive 2009). These changes were not foreseen in original text and due to amendments made. The experience of the CCD was extended. Parliament feels that the lessons from the CCD are not being taken into account in other financial services areas (e.g. cooling off periods and right of withdrawal). He stressed that ‘protection’ was important but that ‘confidence’ was key. Because financial investments are discretionary products, they need consumer confidence in order to be bought. Though IMCO is not the lead on this initiative, they will play the role of consumer advocate. He said that because a number of national authorities have used the UCPD provisions already, that there was no need for over-complexity. One question that the EP is thinking about is whether provisions in the consumer Rights Directive should include financial services. He listed some areas that needed dealing with by regulatory authorities e.g. training standards especially where consumer financial authorities exist. If standards are recognised for soft factors, then the UCPD should be used and enforced. He closed his statement by saying that policy makers should get consumers to shop around (a holistic approach).

Robert Higginbotham (Fidelity): said that the consumer was a weak economic force. He added that while necessary, consumer protection and confidence needed a third ultimate dimension of consumer engagement: 1) transparency (deal with conflicts of interest – whether perceived or real); 2) simplicity; 3) Value (rather than price); 4) Choice (research has shown that consumers do not know how to exercise choice. With regards to disclosure he stressed that advice before purchase of the product was important: 1) Nature of advisory procedure and details; 2) Information should be provided earlier in the process (so that consumers feel committed to the decision); 3) Consumers need to understand components (they need to value all of these – which means getting rid of the current bundled approach). Among the priorities to improve retail investor protection:

• It is still difficult to compare similar products as there is no standardised disclosure e.g. the status of advisers (not clear whether working for the client or the producer, whether adviser can choose from wide range of products or a circumscribed one, and cost of advice is often bundled into the product cost and not visible to the consumer).
• The advice is not always subject to a suitability test nor are all advisers required to say if they have no product offering which is suitable – conflicts of interest exist.
• A single regime for the distribution of investment products would be ideal rather than the patchwork of regulations which currently exists.
• Other aspects of consumer protection which the European Parliament is looking into include professional qualifications and codes of practice of consumer advisors.
• The new UCITS Key Investor Information document is a good, if not perfect start. But it would not work in its current form with products which have an element of guarantee in them. The UCITS KIID is supposed to be the benchmark for PRIPs work

Monique Goyens (BEUC): She started by saying that Safety was important and that consumers were not experts (just like consumers of cosmetics don’t have to be toxicologists, nor consumers of food products microbiologists). She stressed that one pillar was fairness of transaction (unfair marketing). She stressed that consistency was lacking and that enforcement is key to confidence. Cost effective redress was also important. BEUC elements for strong investor protection include:

• Marketing: An a priori control of all marketing material used for investments and savings products (an a posteriori control of advertising for investments is not efficient)
• Info: Short and clear document with the main characteristics of a product should be compulsory for all products
• Independent advice: Use tax incentives as a tool.
• Selling practices: Conflict of interests is the most important cause of mis-selling and must be reduced. No remuneration system contrary to the interests of the consumer should be allowed. Full transparency of the inducements is essential.
• Establish a Financial Regulation Expertise Center (composed of consumer experts in financial regulation)

Emmanuel Constans (CCSF): He gave the example of the consultative committee with various stakeholders organised by the central bank, He felt that new legislative text was needed at the EU and national level. There was also a need for soft law focused on best practice. He outlined the new prudential body ACP in France (merger of insurance and banking supervisors) and explained that its mission (written in law) will be to apply all rules of consumer and user protection. He stressed that it was an important framework for action. 50 persons will be in charge of consumer protection enforcement. He spoke of the ‘pôle commun’ which was a special variation of the twin-peaks model of supervision. Consultation (public and institutionalisation of the dialogue) is key, and it is not enough to simply consult in secrecy. He stressed that consultation of stakeholders should take place simultaneously even if it is sometimes difficult to get different actors to agree (discussions together are better). Timothy Hailes (JP Morgan): Stressed that confidence is an outcome i.e. that understanding was the important element and that there is a need for consumers to understand risk! Complex product does not mean a risky product. He said that PRIPs was ambitious (due to the scope of products) and stressed that the problems with the Lehman case were about credit issues i.e. the problems existed because the firm was unable to repay its debts. Karel van Hulle (DG MARKT) warned of the disadvantages of minimum harmonisation, and Xavier Cognat (FFSA) explained the value chain, the importance of the withdrawal period and that soft law was not so good. Victoria Raffé (FSA) outlined 3 deliverables: 1) deliver on promises /prudential); 2) fair treatment (no ripping off of customer); 3) Fair value. She stressed the conflict of interest that exists between the areas of prudential and conduct-of-business regulation/supervision. While she said that misconduct would always occur, she also stressed that the aim is to avoid the crystallisation of conduct risk. Answers include having credible deterrents and fast redress. Károly Szász (HFSA) stressed the usefulness of having one single regulator for financial services that includes a consumer protection mandate. Although roles may contradict in certain situations (prudential objective favouring capital adequacy rules that may be too strong), the two functions do not contradict especially because only satisfied consumers are key for long-term success. Consumers are a major asset of the lenders. Jean-Paul Mazoyer (Amundi) stressed the lack of coherence between regulated and non-regulated products and that investment products were still too complex and that there was a lack of understanding and comparability. Thierry Francq (AMF) stressed that Europe needed retail investors and that it is crucial that regulation cannot allow a provider to say that a product is not complex when it is complex. Complex products need advice. He warned that written rules may be the same but that supervisors role may be different (prior agreement by supervisor, supervision ex-post, or no supervision at all). He stressed the need for dialogue between producers, regulators and consumer associations, and said that France would see the production and issuance of guidance for risky products. Bernard Coupez (BNP) said that there was 1) support for the principle of standardisation, but that the KID showed the negative sides as well (e.g. in substantive parts and other summaries section); 2) That comparability was not perfect and that the KID needed a glossary of terms in other languages (translation was not accurate and not focussed on national consumer understanding). Carlos Tavares (CESR) concluded the session by criticising the phenomenon of “retailisation of complex products” i.e. the fact that professional products have progressively been sold to retail investors. There was a clear discrepancy between expectations and outcome. Sellers do not understand their own product, which automatically means that they cannot sell their products properly to consumers. Only specialised providers should sell complex products. He favours accountability procedures and said that sanctions should ensure fair compensation to the consumer who suffered – that the sanction does bring an advantage to the consumer.

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EU Regulation

AIFM (Alternative Investment Fund Managers)

The European regulatory landscape for investment funds is undergoing developments (Asset Management Unit of DG Internal Market & Services of the European Commission). The proposal for an AIFM Directive aims at regulating managers who offer professional investors management and/or marketing services in Europe relating to AIF. It will create a fully harmonised regulatory and supervisory framework for AIFMs.  It is an opportunity to create a quality standard in management and to identify and monitor systemic risks arising from the alternative fund industry. The directive would set out rules on the organisation of these managers (valuation and delegation arrangements, authorisation procedures, transparency requirements to investors and regulators e.g. requirement to appoint a depositary, specific transparency requirements and rules against asset stripping applying to AIFs that control non-listed companies). With negotiation of the Directive nearing its conclusion, regulators will soon turn their attention to the development of the technical implementing measures required to give effect to the provisions of the Directive. The CESR will advise the EC (broad scope and technical complexity of provisions) and there will be a public consultation and impact assessment (IA) of the Directive.

PRIPs (Packaged Retail Investment Products – formerly called the “substitute products”)

EC has been working on the PRIPs initiative since 2007 following Council request for level playing field and investor protection. After collecting evidence EC announced in April 2009 that legislative change was necessary. Existing standards of investor protection failed to target risks effectively enough, varying too greatly according to the legal form of a product, rather than its economic nature. Consultation likely end 2010 for legislative proposals in 2011. One of the main objectives of this initiative is to provide horizontal rules for clear product disclosure that allows for better comparison between packaged retail investment products. E.g. building on UCITS and MiFID frameworks, PRIPs should oblige product providers to publish a consistent and standardised Key Information Document (KID) containing, for example, investment policy, risk/reward profile, charges, past performance, etc. – some tailoring to product specificities might be required.

SANCO link: http://ec.europa.eu/internal_market/finservices-retail/investment_products_en.htm

UCITS

In parallel, the EC is working on improving the UCITS Directive. The recently adopted UCITS IV amendments will take effect from 1 July 2011. These will raise standards of investor disclosure and conduct of business in the UCITS market. Following results of IA and public consultation, a proposal for further amendments to the UCITS Directive will follow in early 2011. These reforms will focus in particular on the critical function of the depositary and on introducing principles for sound remuneration policy (based on lessons from financial crisis and Madoff fraud e.g. the liability for assets in custody needs to be strengthened – with only a few exceptions e.g. investments in emerging markets with weak legal systems provided this is clearly disclosed in the prospectus).

SANCO link to Revision of the UCITS Directive

Key Investor Information Document (KID)

UCITS: Key Investor Information

The Commission is currently undertaking in depth market testing across seven EU markets to ascertain consumer responses to the likely content of the proposed KIID. This work is being conducted in two separate phases with the initial findings due to be reported to the Commission during October, with a second wave of findings expected in early 2009.  There was also an open hearing in Brussels on October 20th to update stakeholders on the current status of the Key Investor Information Document.  In a recent UCITS workshop held on September 15th 2008 in Brussels, Carlo Comporti, the secretary general of CESR, announced that there would be another consultation in early 2009, which would follow further technical work related to KIID looking at risk/reward, past performance, and charges. There is concern among industry stakeholders that the the two strands of work, being undertaken by CESR and the Commission are not joined up, further risking a delay in the process.  With the Commission indicating that it would not be willing to press ahead with progress on the wider UCITS reform package until the content of the KIID has been market tested this will present challenges for policymakers in their attempts to secure political agreement before the European Parliament elections in June 2009. The timetable remains very tight.  CESR issued a consultation paper in October 2007 seeking comments by the end of 2007. As part of that consultation CEIOPs highlighted the importance of wrapped investment products by calling for KIIDs to reflect important differences in UCITs held directly versus UCITs held indirectly in a life insurance wrapper given the different charging structures, tax treatment etc. KIID may subsequently feed into effective disclosure for units held in life insurance products.

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The European Commission has proposed to replace the Simplified Prospectus currently required for UCITS with a shorter, clearer, and more investor-focused mandatory disclosure, the 'Key Investor Information' (KII) document.
DG SANCO: UCITS Disclosure Testing - Research Report (IFF Research and YouGov, June 09).
Variations of presentation and content were tested (starting on page 156); Sheets tested (pages 175-188). The research testing methodology was presented in December 2008 in the website: http://ec.europa.eu/internal_market/investment/investor_information_de.htm
SANCO link to Externally contracted studies

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The UCITS Key Information Document (KID) as foreseen by CESR’s advice for UCITS IV Level 2 already requires UCITS to meet a high level of disclosure for fund costs.

KID to include disclosures for risk and reward, as well as for charges

CESR’s advice recommends the adoption of a synthetic risk and reward indicator accompanied by a narrative text. This text should cover the material risks not fully captured by the indicator. On charges, CESR’s advice foresees the inclusion of a table setting out clearly the different elements of the charging structure (in percentage terms). CESR advises that presentation of past performance be based on use of a bar chart displaying up to ten years’ performance, where available. In addition, the proposal allows performance information to be displayed only where there is at least one calendar year’s data. For structured UCITS, CESR proposes an alternative in the form of prospective scenarios. These scenarios are designed to illustrate the potential performance of the fund under a range of market conditions.

Link to CSER report: technical advice to the European Commission on the level 2 measures related to the format and content of Key Information Document disclosures for UCITS (Oct 2009)

Link to the CESR Investment Management Expert Group Webpage: www.cesr.eu/index.php?page=groups&mac=0&id=28

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Links to some documents on these EU initiatives:

FIN-USE: CESR Consultation on KID disclosures for UCITS “the questions of special interest to retail investors”, FIN-USE Response (May 2009)
DG SANCO: UCITS Disclosure Testing - Research Report (IFF Research and YouGov, June 09)
DG SANCO: EC Impact Assessment on PRIPs (Commission Staff Working Document, April 2009)
DG SANCO: An assessment of the extent of an identified need for simplified, standard financial services products (Charles River Associates, Dec 2004)
CESR technical advice to the European Commission on the level 2 measures related to the format and content of Key Information Document disclosures for UCITS (Oct 2009)
CESR Consultation Paper on content and form of Key Investor Information disclosures for UCITS (Oct 2007)
FIN-USE : Need for a coherent approach to product transparency and distribution requirements for "substitutive" retail investment products – FIN-USE Response to the call for evidence (Dec 2007)

Examples of other national relevant material:

UK: FSA - Good and poor practices in Key Features Documents (Financial Services Authority, Sept 2007)
Australia: A model for fee disclosure in product disclosure statements for investment products (ASIC REPORT 23, July 2003)
Netherlands: AFM - Financial Information Leaflet
Germany: Geldanlage: iff legt Produktinformationsblatt vor - "Beipackzettel" für die Anlageberatung (April 2010)
UK: Helping to Understand Investment Risk (ABI, 2010)
UK: Helping Consumers Understand Investment Risk(ABI, Experimental research into the benefits of standardising risk disclosure, Sept 2010)
UK: Developing a Risk Rating Methodology (ABI/IMA Research paper, 2010)
UK: PRIPS New Ways of Thinking (ABI, Oct 2009)
EU: Revisiting the landscape of European long-term savings – A call for action from the asset management industry (Efama, March 2010)