Demonstrating Suitability in Investment Advice Current issues and potential solutions. An evolving approach, interpretation or realisation?

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1 This document is solely for the use of professionals and is not for general public distribution Demonstrating Suitability in Investment Advice A product provider perspective Stewart Cazier Managing Director - Distribution 23 May 2013 An evolving approach, interpretation or realisation? Rules and Principles that have always been there Suitability generally considered responsibility of adviser Provider responsibility generally on product working as it should and characterisation c a acte sato p g Introduction of concept of target market TCF work on monitoring outcomes Further Guidance in 2008 on how this affects CIS managers of UK authorised schemes should interpret the guidance Product suitability at heart of FCA objectives More scrutiny, different interpretation of responsibilities under (sometimes longstanding) rules Focus on consumer outcomes and demonstrating suitability FSMA FSA Principles TCF RDR (ongoing) SCARPS With-Profits PPI (ongoing) RPPD guidelines COBS TCF and UK CIS guidance Structured Products Madoff Capita / Arch- Cru Keydata Structured Product Guidance UCIS FCA Approach FCA Business Document Plan Increased regulatory MIFID II / PRIPS messaging and / AIFMD / UCITS academic work among others Product Intervention consultations and Policy Statements IOSCO / ESMA product work CIP and DIF guidance Traded Life Interest-rate swaps LIBOR Increased early intervention e.g ETFs, ARFs, Corporate Bond Funds New Firm Risk Assessments FCA work on charges Pre-Crisis what has always been there 2007/ and on 33 1

2 FCA Approach to Product suitability Product suitability at the core of FCA objectives: Consumers getting financial services and products that meet their needs, from firms they can trust; Firms compete effectively, with the interests of their customers and the integrity of the market at the heart of how they run their business. The message for change comes right from the top: While central government and regulatory have a duty to educate consumers, it also falls to you and the intermediaries you work with to help consumers find investments that are likely to meet their needs. This could be doing things like making it easier for consumers to make rational decisions, increasing transparency around fees and charges, and being competitive on these immediate, factual aspects like fees, rather than projected future performance. The truth is that asset managers can no longer distance themselves from the advice or sales process. Originators of products need to consider how they will distribute them as part of the design process. The FCA will ask firms to look at how they plan their products, how they plan their distribution, and how they work once they are sold. Martin Wheatley, September Product suitability rules, guidance and work What must we consider? FCA Principles FCA rules on suitability: specifically COBS 9.2 FCA guidance on Responsibilities of Providers and Distributors for the Fair Treatment of Customers Guide (RPPD), and the supplemental guidance for UK authorised CIS managers Treating Customers Fairly and UK Authorised Collective Investment Scheme Managers Thematic work on product suitability: structured products, exchange traded products, absolute return funds, corporate bond funds, centralised investment propositions FCA product intervention and supervision 35 2

3 The new world under the FCA New powers, new approach New product intervention powers and more responsibility on providers to ensure products reach the customers they were designed for Greater focus on product governance. Early intervention on specific products and distribution strategies. Provider firms expected to assess target market, perform adequate stress testing, and manage the product risks for consumers. More challenge on value-for-money and checking charging structures still ensure good consumer outcomes. More policy consideration at EU and international level (MIFID II, UCITS VI), and on competition grounds (FCA interest in asset management on competition grounds, and on behavioural economics more generally). All points to a desire to know and communicate with our clients better, be clear about who our products are suitable for, and ensure the way we distribute and maintain oversight of our products is likely to deliver fair outcomes for consumers 36 To be clear: We are not responsible for individual product recommendations But: Researching needs Identifying and monitoring outcomes Ensuring that the client can understand these key outcomes, whether advised or not; If not advised, that it is reasonable that a client can decide whether suitable or not; Monitoring flows to look for unusual or unexpected patterns or flows. 37 3

4 Product Suitability key considerations Product type Component funds Solutions Combination? Designed to be part of a diversified portfolio? Is it likely it is being used as a complete solution? Any features I should be concerned about? Does my product governance framework provide sufficient assessment and oversight? Client type Professional Retail Will clients need advice? Are clients provided with clear information pre and post sale? Does MI from distributors provide me with enough information about clients? Does my product governance framework provide sufficient assessment and oversight? Distribution Advised / intermediated More to consider Execution-only Who is responsible for client and suitability assessment? Providing appropriate information and due diligence of distribution partners. Is distribution compliant on inducements and conflicts of interest? Does my product governance framework provide sufficient assessment and oversight? 38 Case Study component funds What is a component fund? Component funds are typically used by investors and/or their advisors to construct a diversified portfolio, and are usually more specialist in nature. What are the benefits? Specialist investment approach to a particular strategy, sector or market; potential to choose a range of investments within a diversified portfolio. Key considerations: Disclosure: Only ever designed to form part of a diversified portfolio. Are clients capable of knowing it should not form an entire portfolio, or do they need advice? Limited suitability assessment: Any evidence to suggest product is not being used as intended? Identify distribution channels where specific products are at risk of being misunderstood / mischaracterised by advisors. Identify particular features which need clear communication. 39 4

5 Solutions funds some key concepts What are solutions funds? Funds that target specific outcomes such as target retirement date and/or specific risks (volatility, longevity, inflation). Benefits? Outcome focussed, risk managed investment solution. Often diversified through multi-asset exposure. Multi-asset funds, risk-targeted and risk-rated are examples of solutions-oriented products. What are risk-rated funds? Measurement at a point in time of a fund s risk (based on whatever metric). It does not represent a commitment from the fund manager that a particular level, or set of tolerances, of risk will be adhered as part of the investment process and will not form a mandate constraint. What are risk-targeted funds? A risk target or constraint is a statement confirming that fund seeks to observe particular levels or tolerances of risk (based on whatever metric). This implies that it is a mandate restriction and a criterion in the fund s investment process, albeit not necessarily as within the manager s control as other mandate restrictions. (A risk targeted or constrained fund may also be the subject of risk ratings or profiles as well). Two key concepts: measurement vs. commitment; determining relevance for suitability 40 Case Study risk-rated / risk-targeted Key considerations: Disclosure: Risk ratings: 1. Parties involved: Who is making the statement? If it is a third party, how responsible are you for reliance made on it if you quote it, or paid for it? 2. Timing and communication of changes: What happens if there are changes, and how are these communicated? How can the end consumer / adviser find out about the change? What are your responsibilities if you change who provides the risk rating? 3. Ensuring understanding / limitations for assessing suitability: Have you explained the methodology sufficiently for it to be understood? Have you communicated what the risks associated with the measurement methodology are? Do you need to warn on any potential limitations of the use of the profile in determining suitability? If you do not think that the risk rating or profile is relevant to a suitability decision, do you state this? Is its prominence in your material consistent with this? Have you explained what the difference is between the risk rating and the KIID risk rating? Are you confident that the end consumer / adviser will understand any caveats / explanations you make? Risk targets: 1. Communication and monitoring of investment process: How is the target reflected in your investment process? How rigidly do you adhere to risk constraints, and are there defined circumstances where you can exceed them? If so, how does this affect reliance on the risk target / constraint for suitability purposes? How do you measure adherence, is there an independent review? 2. Ensuring understanding / limitations for assessing suitability: Have you explained the methodology clearly, and have you explained whether it can be relied upon for suitability purposes? If you do not think that the risk rating or profile is relevant to a suitability decision, do you state this? Is its prominence in your material consistent with this? Is it clear to the consumer what the difference is between your risk statement and the KIID risk rating? Are you confident that the end consumer / adviser will understand any caveats / explanations you make? 41 5

6 Case Studies risk-rated / risk-targeted (continued) Governance: 1. Clarity of scheme documentation. 2. Oversight and involvement of trustees / ACD tailoring of approach, additional reporting / monitoring of outcomes and areas outside risk tolerance etc. 3. Assessing whether product governance framework is fit for purpose or whether additional controls / assessment is required. Suitability: 1. Do you understand what customer needs are addressed by your product, and can you evidence why your product outcomes are suitable for these needs? 2. Have you considered how you will monitor outcomes being relied on for suitability to ensure that your product remains suitable for these needs, and any corrective actions are identified? 3. Assuring yourself that the customer and distributors understand key terms, risks and limitations. 4. Monitoring Outcomes Monitoring of outcomes in addition to that being provided by third party. 5. Consideration of distribution method, including restricting distribution e.g. non-advised, execution only. O r 42 Pricing Not traditionally considered part of suitability, but No longer between consenting adults Distribution channels Similar strategies Fund expenses 43 6

7 Conclusions Clients are, and will continue to be, at the heart of what we do. Product suitability is an evolving, but core concept for providers, distributors and the regulator. We must respond to these developments. e e Approach to product suitability will depend on type of product, type of consumer and distribution channel. 44 Henderson Global Investors 201 Bishopsgate, London EC2M 3AE Tel: Fax: Important information This document is intended solely for the use of professionals, defined as Eligible Counterparties or Professional Clients, and is not for general public distribution. Past performance is not a guide to future performance. The value of an investment and the income from it can fall as well as rise and you may not get back the amount originally invested. Tax assumptions and reliefs depend upon an investor s particular circumstances and may change if those circumstances or the law change. If you invest through a third party provider you are advised to consult them directly as charges, performance and terms and conditions may differ materially. Nothing in this document is intended to or should be construed as advice. This document is not a recommendation to sell or purchase any investment. It does not form part of any contract for the sale or purchase of any investment. Any investment application will be made solely on the basis of the information contained in the Prospectus (including all relevant covering documents), which will contain investment restrictions. This document is intended as a summary only and potential investors must read the prospectus, and where relevant, the key investor information document before investing. Issued in the UK by Henderson Global Investors. Henderson Global Investors is the name under which Henderson Global Investors Limited (reg. no ), Henderson Fund Management Limited (reg. no ), Henderson Investment Funds Limited (reg. no ), Henderson Investment Management Limited (reg. no ), Henderson Alternative Investment Advisor Limited (reg. no ), Henderson Equity Partners Limited (reg. no ), Gartmore Investment Limited (reg. no ), (each incorporated and registered in England and Wales with registered office at 201 Bishopsgate, London EC2M 3AE) are authorised and regulated by the Financial Conduct Authority to provide investment products and services. Telephone calls may be recorded and monitored. Ref: 34S Reference 45 7