From SM&CR, PROD and the MiFID II amendments expected that will bring ESG investing into the mainstream, there are many regulatory challenges facing advisers.
Ryan Medlock, Senior Business Development Manager looks at the regulatory landscape ahead and what you should be focusing on to help you do better business.
What are the regulatory challenges facing advisers in 2020?
Ryan: Well I think it would be rare to not have a year with any regulatory challenges, but certainly in 2020, there’s a number of prominent issues and challenges. We’re just off the back of the full roll out of the senior managers and certification regime. That’s another market wide piece of regulation that we all have to grapple with. Certainly, it’s not a complex piece of legislation but it is going to introduce a few logistical issues for a number of firms and we know it can’t be treated as a tick box exercise. So, that issue is going to rumble on.
Our old friend Mifid II that was implemented over two years ago, that’s still causing a number of issues for adviser firms. We’re actually expecting an amendment to Mifid II to be announced at some point in 2020 and that’s going to bring ESG investing into the mainstream and into the heart of the advisory process. So that’s definitely something to look out for.
We obviously know a lot of adviser firms are still working through the practicalities and implications of implementing a compliant prod process. On top of all that we know the regulator is about to commence a review into the effectiveness of both the retail distribution review and the financial advice market review.
And all of that, once you put it into the mixer, creates quite an uncertain regulatory landscape as we move into 2020.
Thinking specifically about Mifid II, what aspects of it are still causing advisers issues?
Ryan: One of the more pertinent issues from Mifid II is the whole cost and charges disclosure piece. And talking about issues, I’m not just talking about populating that data because a lot of that is commonplace now. I think if we’re all honest with ourselves, this does have the feeling of a bit of a tick-box exercise at the moment, across the industry. I have no doubt that in the next 18 to 24 months I think, collectively, we’ll be in a much stronger place, across the industry in that area. But right now, a number of issues in that particular area, and that is largely being contributed to by a lack of good quality data being fed down through the distribution channels from manufacturers. So, particularly around categorisation of the different cost categories we need to pull out. That’s a big issue; we know there still remains a lot of regulatory scrutiny in that particular area. We know the regulator is actively looking at how firms are disclosing both their ex-ante costs and charges and ex-post costs and charges. So, they’re a number of issues, and also the 10% drop reporting rule for in scope investments managed on a discretionary basis. Since Mifid II was implemented over two years ago we’ve actually had one instance of the market falling by 10% or more over a quarterly period; so, this was Q4 2018. And that introduced a number of implications, predominantly around roles and responsibilities for communicating that 10% fall to end clients. Even monitoring a 10% fall is much harder than it sounds, particularly where there are multiple parties in the distribution chain and particularly where client assets are split over multiple platforms.
Earlier, we also spoke about prod. How should advisers be implementing prod?
Ryan: One of the key requirements for advisers under prod is this requirement to identify target markets within their client bank, because that presumably means that advisers are going to have to review their client bank, segment their client bank and in some situations sub-segment their client bank. Now the good thing about prod, is that there is not one hard rule in there which explicitly tells advisers how they should be going about doing that exercise. It basically needs to be about the adviser’s client bank and the wants, needs and characteristics of their particular clients. I think there are several ways that an adviser can slice their client bank up in a post-prod environment. So, I’m talking about things like financial life stages, current income requirements, or maybe even something as simple for capacity for loss or a client’s investment experience or expertise. There’s certainly no point over-complicating this. Essentially what prod is, is an exercise to identify the different client needs across the client bank and in turn identify different segments. Once you’ve identified those needs and segments that is effectively the first half of prod over and done with.
The second part is mapping solutions to those segments, so effectively taking the output from your target market analysis and feeding that into your wider research, your wider due diligence and the client’s overall suitability framework. If advisers have a process that does that, it’s documented and advisers review that on a regular basis, I think that’s a really effective way of implementing a robust and compliant prod process.
Another area that is becoming a more regulatory focus is ESG, so what do you think are the regulatory drivers behind ESG investing?
Ryan: Well I think there’s a lot of regulatory changes afoot in ESG investing in 2020 that are going to have a fundamental impact on the advisory process. Since 2018 there’s been over 170 ESG related regulatory measures proposed globally, so I think that gives you an indication of the scale of change coming in this particular area. If we look closer to home, in the UK, we know we had the new regulations introduced by the DWP in October of last year, so they were aimed at trustees of occupational pension schemes. They centred around updating statement of investment principles to show how ESG factors are taken into account in the investment decision-making process. But the biggest impact for advisers is this proposed amendment to Mifid II made by the European Securities and Markets Authority, and I must stress this is an amendment to Mifid II, it is not a brand-new EU directive. But the changes are going to strike right at the heart of the assessing suitability process. The changes will require advisers to take their clients’ ESG preferences into account when assessing their investment objectives. And, adviser firms will also have to take ESG characteristics into account in respect of existing organisational requirements. By organisational requirements I’m talking about things like systems, processes, controls, conflict of interest policies – that sort of thing. Now, we’re expecting ESMA to publish the final rules on this at some point in the first half of 2020. So, we’ll have much more detail and clarity on the exact requirements and time scales involved at that point. But that is definitely something for advisers to watch out for and potentially something to start preparing for in their client conversations now.