MAR 2020 STEVE BIRD
The Financial Conduct Authority (FCA) has introduced new rules requiring UK authorised fund managers (AFMs) to assess the overall value that their authorised funds deliver to investors, and to publish a summary of these assessments annually. This will be the first time that AFMs have had to justify their pricing and consumer benefits publicly, and it will be important from a reputational, as well as regulatory perspective to produce a credible assessment of the value delivered.
The FCA rules are motivated by concerns that investors may be getting poor value for money. For example, there is evidence reported by the FCA that retail investors can often pay twice as much as institutional investors for similar products, hence they may unwittingly invest in poor value products.
AFM’s were required to start reporting as from January 2020.
Just to focus the industry’s attention, the FCA has made an individual accountable under the Senior Managers and Certification Regime (SM&CR) for an AFM assessing value for money.
Assessing value will inevitably be challenging due both to the subjective nature of what constitutes good value and especially because of limitations in the data available.
To produce a robust assessment, AFMs will need to go through a comprehensive resource-intensive process that is subject to close scrutiny and oversight from the AFM Board. While the market will only see summary reports, it is likely that the FCA’s supervisory work will involve more detailed scrutiny of the internal assessments, which will need to be recorded to support this forensic audit.
In the UK, the increased regulatory focus on value for money in the asset management industry has gone hand in hand with a dramatic increase in the number of retail investors becoming direct clients of this industry. The latter is due in large part to the rise of defined contribution pensions and auto-enrolment into pension schemes. In its asset management market study, the FCA found that asset managers earned an average profit margin of 36% over a six-year period – amongst the highest in the UK economy – with margins still higher if the profit-sharing element of staff remuneration is included.
The FCA did not, however, find any clear relationship between fund charges and fund performance, which highlights the need for the measurement of value for money.
AFM’s existing Product Governance processes are likely to provide a good starting point for the fund value assessment frameworks. A common approach is for the Product Team to lead on the development of the assessment frameworks with the close involvement of staff from across the firm, including from the Compliance, Risk, Finance, Distribution and Governance teams. This requires a coherent logic to capture the commercial reasoning behind the product.
The assessments will then be approved by the AFM’s Board. An individual is required under SM&CR to take reasonable steps to ensure that the firm complies with its obligation to carry out the assessment of value. If the Chair of the AFM’s Board is an approved person, the Chair should be appointed as the responsible individual.
The Chair may be either an executive or an independent director. A number of AFMs are appointing new independent directors to the AFM’s Board to comply with the new requirements in relation to Governance. However, assigning responsibility under SM&CR to a new board member may mean that the individual is not in place sufficiently early to be involved in the development of the assessment methodology.
Early engagement by the responsible individual and the AFM’s Board is important as it may be difficult to make substantial changes to the methodology late in the day and effective oversight and challenge from the AFM’s Board and the responsible individual is likely to be a key area of focus for the FCA. It is important for firms to ensure that they have robust Governance reporting based on reliable and auditable data.
It will be important for AFM’s to develop a framework and methodology that is consistent across all funds, while having enough flexibility to take into account the specifics of different fund types. This will avoid the risk of being seen by the FCA of the market to ‘cherry pick’ the data points or change the assessment process to improve the results for different funds, inflating the value for money assessment.
Some AFMs have chosen a scorecard approach with standardised criteria for fund assessment. A number seem to consider the various assessment criteria to have different levels of importance and are taking this into account in their frameworks. A product governance tool such as Prodigy, with its inbuilt scorecard functionality, offers an ideal methodology for producing the kind of robust and detailed auditable data now required for FCA 'value for money' assessment compliance.