Light at the end of the regulatory tunnel
Overregulation has become a key worry for the European funds industry. From asset managers to distributors, few areas of investment management have been untouched by the plethora of regulation initiated or implemented since the financial crisis began. With around 30 initiatives since 2008, it has been an expansive, expensive exercise.
What has been the result of this increased regulation? Has the ultimate
effect been to reduce risk for investors and increase protection, or has it eroded value and the availability of investment advice? In addition, what will the European Parliamentary elections in May mean for those directives already winding their way through the system?
Some believe the elections could present an opportunity to better engage with the incoming politicians, who may be fresh to the topics. Yet the outlook of the outgoing Parliamentarians is already somewhat more positive than we have seen in recent years. Several MEPs and regulators spoke at a recent asset management conference in Brussels and noticeable by its absence was their previous emphasis on needed change and reform; instead much was discussed about the new growth agenda and the need to assess those initiatives already implemented.
Too much regulation?
The majority of industry leaders speaking at the European Fund and Asset Management Association (EFAMA ) conference in November all seemed to agree the regulatory agenda with regards to asset management has been overdone.
It is acknowledged the focus of policymakers on the asset management industry is a spill-over from the banking system. However, as the cost of compliance with the myriad of regulations being passed continues to rise, authorities now need to take a step back, prioritise, and think about what it is they are trying to achieve, presenters at the conference argued. There are too many overlapping, sometimes contradictory regulations in the pipeline and greater harmonisation is needed; not just within the EU but with other regions as well.
Many in the asset management industry feel EU policymakers, as well as individual national regulators, need to refocus attention on creative solutions instead of punitive actions. In fact, some fear regulators have already pushed past their original objectives. “There is talk in Europe of regulators’ growth agenda but in fact the pendulum has swung from not enough regulation and too much growth to now too much regulation, which is stifling growth,” one speaker noted.
Representatives of the European Securities and Markets Authority at the conference commented about the capacity of the EU financial services industry to digest the amount of regulation being introduced. “There is no point introducing new rules if we do not have the capacity to implement and supervise them,” one said. “We are at risk in not having the right balance.”
In addition several initiatives designed to protect investors may end up doing the opposite. The EU’s proposed Financial Transaction Tax (which many hope will disappear with the next Parliament) is considered to be a case in point. Speakers at the conference noted that in practice it could work more like a tax on savers and investors as opposed to financial institutions. This is because the tax as it is currently proposed affects individual investments through each link of the distribution chain, including advisers. Each then has the capacity to move the cost down the line until it rests with the investor.
The panacea of increased competition was brought up more than once at the conference. Regulators and politicians say their focus has been on increasing competition, to improve transparency and reduce fees. In fact, the opposite has been happening, speakers at the conference contended. The growing cost of regulations has made it more difficult for smaller investment houses to compete, while fund selection and proof of suitability in recommendations mean advisers are moving away from a broad range of providers towards a select few. Still others pointed out that as asset groups consolidate and/or rationalise and close funds as a cost-saving exercise, the end effect will be an increase in turnover and churning for investors.
Highlighted as an example of regulators’ new growth agenda is a proposal for a long-term savings investment vehicle, designed to help promote economic growth. The proposed European Long-Term Investment Fund (ELTIF) would be a structure, much like UCITS , which asset managers could offer investors. It is so-called long-term because the intention such funds would invest in illiquid assets such as infrastructure, unlisted equities and private equity. ELTIF s could open the path for non-institutional investors, such as retail investment savers and defined contribution plan participants to be able to access these potential diversifying, long-term investments, a gap which has remained in such portfolios due to current regulations. Given the long lock up periods, however, redemptions from ELTIF s would have to be limited but just how restricted has yet to be decided.
The speed of decisions regarding the ELTIF is a problem in the face of the May elections. According to some it stands a good chance or at least a better chance than say, resolution on some of the issues contained in other financial proposals also being debated by Parliament (such as those concerning money market funds). Ultimately it will come down to the number of amendments EU member states attempt to attach to the proposals, as they will hamper progress.
The ELTIF is expected to be a popular choice for investors with many asset managers commenting that there has been an increase in demand for longer-term investments. European investors have also become more outcome orientated, looking for solutions and a broader array of assets, as opposed to plain vanilla equity or bond funds.
Asset managers at the conference noted there has been greater demand across Europe for absolute return products and more targeted, specific and alternative fixed interest funds, as opposed to broad-based bond portfolios. Infrastructure and real estate investors are also a draw at the moment.
Amid this increase in investment demand, regulators continue to focus attention on fees being charged. However, industry members said the headline figure of funds’ fees is too difficult to compare across Europe. Instead more attention should be drawn to total expense ratios (TER), something the UK’s local Financial Conduct Authority is already examining delegates said.
It was also argued, again several times, the asset management industry should not be alone in the fees debate with regulators, so too should insurance providers. Many expressed dismay that regulations (such as the Packaged Retail Investment Products (Prips) directive) that could establish a level playing field between investment funds and insurance products continue to be delayed.
Although there were questions as to the supervision and enforcement of the existing Markets in Financial Instruments Directive (Mifid), the second version of this directive is winding its way through Europe. Controversially Mifid II is proposing a ban on inducements in much the way the UK’s RDR has eliminated adviser commission. However, the UK has a long established independent advice channel, one not necessarily replicated through Europe.
As a result, conference speakers pointed out (several times) that this regulation has the potential to hurt the nascent independent advice market in some EU member states, pushing distribution back to banks. This, they noted, does not seem to be in keeping with regulators’ stated desire to encourage competition.
There is also a cultural difference between countries relating to the payment of fees that the inducement ban does not take into consideration, speakers at the conference purported. Questions were asked as to why commission and fees cannot co-exist, with both models competing? If not, the regulation could result in many investors going without advice at all.
One silver lining in this debate is that Mifid II is so mired in the process, it is unlikely to get finalised anytime soon. This may make it one less change that advisers need to be concerned about. However, it will be one with which the next European Parliament may have to quickly come to grip.This is not investment advice. Regulatory Disclosure