Today is a significant day for asset management in the UK. The Asset Management Market Study has taken a big step towards its conclusion with the publication of the first set of final rules, addressing most of the main issues highlighted in the first report. The process started in Nov 2015 with the publication of the terms of reference, moving through the regulatory lifecycle with an interim report, final report, consultation, to today’s final rules. What the FCA have perhaps lacked in speed of delivery has been made up for in the tone and impact of this work. There has been no major deviation from the interim report, which certainly got the attention of at least some asset managers. Make no mistake, this is a huge change for asset managers, and one that should benefit all investors.
Before we dive into the detail it’s worth reminding ourselves just why this work is so significant, and so badly needed. The 2016 interim study reported a market size of £6.9 trillion, and as Donald Trump will tell you, markets have been GREAT since then. The current UK asset management industry now looks after around £8 trillion of assets. Over £1 trillion is managed for UK retail investors, and another £3 trillion for UK pension funds. Add in the importance of asset management for direct and indirect employment and it’s clear, this is a critical sector of industry for the UK.
However, when you read the first report all wasn’t rosy: far from it. The average operating margin of 36% for asset management was/is way above the level of margins enjoyed by almost every other industry sector you could think of. There are numerous examples of how this has come about: £6bn in expensive trackers, £109bn in closet trackers and so on. The supporting consumer research really highlighted the uncomfortable truth. The majority of the population simply don’t understand percentage-based charging, the impact charges have over the long term, or whether their investments are value for money. This allows providers to hide potentially expensive products in plain sight. Something had to change. And the final rules published today should help with that.
The main change will be the requirement, from September 2019, for every Authorised Fund Manager (AFM) to implement an “Assessment of Value” test for all of their products. This will cover the following criteria…
- Quality of service
- AFM costs
- Economies of scale
- Comparable market rates
- Comparable services
- Classes of units
This assessment will need to be carried out annually, with the results published for all to see in a manner that is clear, fair and not misleading. Each one of the above criteria could raise some interesting questions for certain AFM boards, but especially the questions of economies of scale and comparable services. For the former, this doesn’t prevent AFMs from, for example, reinvesting savings achieved via economies of scale into the business and/or subsidising other parts of the business, however they will need to demonstrate how this is in the best interests of investors.
As for comparable services, if, for example, you are flogging a UK tracker for 16 times the cost of an identical product, then I look forward to seeing how you justify it.
We’ve long said at the lang cat that value is not something that a provider can create. It’s something the consumer of a good or service experiences; it’s subjective. To understand it you need to know what a thing is/does and what it costs. Without that you can’t assess whether you’ve had good value from it. This stuff, plus MiFID II disclosure, moves us at least a step along the right direction. We still don’t think investors will be tooled up enough to really have a handle on what’s going on, but still.
HOW MANY BOARDS WOULD THE ROMANS HOARD, IF THE ROMAN HORDES GOT BORED?
Crucially, alongside this, the structure of AFM boards will be changing. At least 25% of the board and/or two individuals will need to be Independent Non-Execs. And the assessment is likely to be carried out under the Senior Manager Regime, with personal responsibility and accountability for the outcome. Never mind the lang cat tweeting a hilarious GIF about you if you are overcharging your customers; you are personally liable as an individual.
Alongside these changes there is new guidance on how asset managers can move investors from legacy shareclasses to the post-RDR clean version if this is in their best interests to do so. These rules are effective immediately. There is also confirmation that there are “no immediate plans” for a ban on trail commission being paid to advisers. Considering the many unintended consequences with such a move, and that for many clients remaining in their trail commission generating product is the best outcome this feels a sensible move however it still feels like this is a nettle the FCA are going to grasp at some point in the future.
The impact of the “assessment of value” test, under the watching eye of non-execs and the senior managers regime will one we’ll be watching over the coming months and years. If implemented as per the rules it has the potential to drive significant change through the industry, especially if the commitment the FCA have shown whilst defining the policy continues through to potential enforcement. Perhaps naïvely I expect there will be some asset managers who will see this as an opportunity and will seek first mover advantage in implementing the rules. The FCA suggest there will need to be around 480 independent directors appointed, and some asset managers will seek to get the first pick. Others will hold on until the very last minute. This should, perhaps, become part of the due diligence and selection criteria advisers assess asset managers on. Do you want to recommend your clients invest with firms who are embracing the new rules, or those who are seeking to avoid them?
YOUR TURN NEXT
And speaking of advisers, it’s worth remembering this theme of “value for money” is coming your way soon. Friend of the lang cat Rory Percival was speaking about this yesterday, and lets face it, he should know about the direction the FCA will be taking. It’s also a theme of the Platform Market Study, which has spawned out of the Asset Management Work. This is looking at whether “platforms and similar firms’ investment solutions offer investors value for money”, and whether “advisers have a positive impact on the cost and quality of the platform”. Whilst the first report from this work isn’t due until the summer, you can’t help feeling that whoever you are, whether asset manager, provider, platform or adviser, pretty soon you are going to be required to formally assess that whatever you do is of value. And it’s hard to argue that this is a bad thing.
Overall, then, this is a more subtle set of new rules and further consultations than many had hoped for, including us. There are definitely some areas which FCA has ducked this time – but some may come back around in the Platform Market Study. Nonetheless, there is stuff to like here.
We move on with only incremental improvements, but at least we move on.