Product governance post-Mifid and your clients’ investments

For many investment professionals, Mifid II’s focus on product governance is a much-needed, sensible approach to making sure the client is at the heart of every decision in the investment process, right from the creation of the fund down to its distribution.

In practical terms, under Mifid II, manufacturers such as fund managers will need to define the target market for each one of their assets, and should have done so well before 3 January 2018.

For providers, this means they will need to be crystal-clear about what their funds are supposed to do, and at whom the funds are targeted. For advisers, they will need to make sure the product and the target market are in line. 

According to Richard Janes, spokesman for Brewin Dolphin, the responsibilities of product governance can be summarised thus: “There are requirements on manufacturers to identify the risks of their investments, and define the appropriate target market.

“There is an onus on distributors who will need to consider the target market alongside their overarching suitability obligations.”

Reason for better governance

“The over-arching aim for this work, as ever, should be to achieve best practice within these companies and to target positive outcomes for consumers in a transparent manner,” says a spokesman for AKG. 

Better governance should help deliver better products, which are more relevant, have clear objectives and deliver to the customer’s expectations. Richard Romer-Lee

The spokesman continues: “Mifid II is introducing significant product governance and hence, whether directly or indirectly affected, companies across the UK financial services sector should consider their approach and processes when designing and distributing products and funds in future.”

This approach will mean manufacturers of products will have to pay attention to the investor at every point in the process – from design to distribution.

Susann Altkemper, counsel for City law firm CMS, comments: “With a view to preventing any ‘reverse engineering’ of product development, whereby a product is created without prior consideration being given to the investment objectives the product is intended to meet, Mifid II seeks to apply requirements that govern the whole life-cycle of a product.”

Education

For advisers, this is a question of education – and making sure the providers are giving them the right information.

Sarah Lyons, head of marketing at Ascentric, declares: “Advisers will need to know that target market definitions are being implemented and, if these do change, advisers will need to know how to assess these assets to make sure these are suitable for their clients.”

Moreover, providers will need to demonstrate to distributors that they fully understand the products and its features, so that advisers and distributors can explain these adequately to the end investor.

Additionally, as Ms Altkemper says, distributors and providers will need to undertake “detailed analyses” to determine under which circumstances a product might deliver poor outcomes, and to deploy the product through distribution channels which are appropriate for the intended market.

Ultimately, she says, the whole industry will be “looking to ensure that internal product governance processes are documented clearly and operate effectively”.

Greater awareness

With the emphasis on knowing the client, proper product design and appropriate distribution, there should be better documented analysis available to help make the distributors more knowledgeable about the fund universe on which they must advise. 

Linda Gibson, director of regulatory change and compliance risk for BNY Mellon’s Pershing, comments: “Mifid II takes a fundamentally different approach to product governance, as firms are now expected to not only comply with their own obligations but be aware of what is happening up and down the product chain.”

Connor Sloman, head of products and client solutions for Morningstar’s EMEA division, points out: “Mifid II is not black and white for advisers when it comes to using target market information in their investment recommendations.

“There may be circumstances where it is appropriate for a product to be sold to an investor in a different target market, but advisers must justify their individual security decisions as enhancing the suitability or diversification of the investor’s portfolio.”

But good product governance is not purely the lien of the distributor, who now has more information at his or her fingertips: it is the responsibility of the product provider to ensure it is fit for purpose. 

This means advisers will need to be given more information for them to be able to make a more appropriate and suitable recommendation to clients.

Ms Gibson adds: “Mifid II increases information and target market sharing requirements and places the additional burden of the target market assessment obligation on product manufacturers and distributors.”

Fit for purpose

Jackie Beard, director of manager research services for Morningstar, opines: “Good product governance is about making sure the funds are fit for purpose. 

“Fund managers need to make sure the funds are going to do what they say they will do.”

This is a point on which Richard Romer-Lee, managing director of Square Mile Investment Consulting and Research, agrees.

According to him, it is fair to say many products have been launched by the industry and not all have delivered to expectations.

“Better governance should help deliver better products, which are more relevant, have clear objectives and deliver to the customer’s expectations,” Mr Romer-Lee adds.

Ms Gibson also believes Mifid II’s push for clearer product governance will make sure the providers are also focusing on the end user, not on the distributor or platform.

She adds: “The objective of this is to ensure they act in the client’s best interest all the way through the product’s lifecycle.”

Although this guide does not cover complaints handling under Mifid II, it is worth stating here that any complaints handling guidelines relating to the provision of investment services will apply to both potential clients as well as actual clients.

This means if a fund does not do what it is supposed to do, and there has not been proper governance, a company must ensure it has established a complaints management function to deal with any complaints that may ensue as a result.

Complexity 

According to Jennine Watts, regulatory solutions manager at SEI Wealth Platform, the approach to product governance has benefited from the standardised European Mifid Template produced by the European Working Group, in that there is now a single, unified format for product manufacturers to share the relevant information with the industry.

However, she mentions several challenges remain which could complicate matters in the run-up to January 3.

Ms Watts explains: “Challenges still remain on population and dissemination of the data, as the industry struggles with the relationship and data complexities.

The Financial Conduct Authority has provided some guidelines which I think is an interpretation that makes sense and is useful. Jackie Beard

“Large segments of the industry do not have a direct relationship with the manufacturer with whom they invest, and in reality, there are often several parties in the investment chain, referred to as intermediary and end distributors.”

She gives as an example a small IFA, which places orders through a larger network, which in turn uses another firm with technology capabilities and market connectivity to route the fund orders, and so on.

“There could be several firms known as intermediary distributors in between the manufacturer and end distributor, and these will all have to work together to ensure information, such as target market, works its way down the chain.”

Add to this various other legislative measures, such as the Packaged Retail Investment and Insurance-based Products and Ucits legislation, and it is clear there needs to be more joined-up thinking as to how various standards and methodologies need to be brought into line with Mifid II.

As Ms Watts says: “This is not an easy feat, although ultimately the objective is the same.”

Solutions

Hugues Gillibert, chief executive of Fitz Partners, says there are some solutions the industry should be putting in place now to be compliant with Mifid II’s product governance requirements.

He outlines: 

• Follow the latest FCA guidelines.
• Appoint independent directors (and provide them with meaningful information).
• In some way, follow the US model (15c reporting).
• Annually sign off in-depth reviews of operating fees.
• In parallel, assess all their fees to the lowest levels possible, and assess product performance.

Some services have already started to integrate target market data into their information systems. Zurich-based FundInfo AG has already made its data service Mifid II compliant to help fund distributors get ahead of the game.

But as Ms Beard states, for many advisers now, the issue is no longer about picking a fund for a client’s portfolio, but for creating a solution, such as a long-term investment plan or a retirement portfolio. 

Whether Mifid II goes far enough to making sure product providers really are ensuring their funds are right for that solution is another question entirely. 

As Morningstar’s Ms Beard comments: “In the US, they are very hands-on with regulation whereas in Europe it tends to be about interpretation and how various jurisdictions choose to implement directives.

“The Financial Conduct Authority has provided some guidelines which I think is an interpretation that makes sense and is useful.

“This way, advisers can focus on the quality of a product and its value for money.”

Simoney Kyriakou is content plus editor for FTAdviser