10% Mifid rule should not be scrapped but repurposed

Tim Williams

Tim Williams

Late last year, the FCA announced it was consigning the Mifid II 10 per cent depreciation rule to the scrap heap of history.

The move to throw out the often maligned and controversial rule after years of criticism got me thinking; should we really be throwing away something that wealth management companies spent years developing and collectively millions of pounds to implement?

Surely in 2023 where reuse, recycle and repurpose are the mantras of the moment, we can do better and take key learnings away from it?

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The 10 per cent depreciation rule was enforced under the Mifid II regime from January 2018 and certainly unified the industry, just not in the way it was intended.

Initial concerns focused on whether portfolios have ever or will ever drop 10 per cent or more over a specific period – something that has been well and truly debunked in recent years.

Other concerns centred on the impact this would have on client behaviours – would they be sparked into a frenzy of panic selling? Lastly, there was also the operational challenge of actually applying the rule to investors’ portfolios with minimal impact on resources.  

As a technology provider offering a solution in this space, I know first-hand the challenges involved and it is clear that as an industry we failed to adopt the correct approach.

That is not to say that wealth companies did a terrible job. Before they even started to build or integrate the technology, there were already some tough questions to answer: Which calculation method should we adopt? Should fees be excluded or included? Does the rule apply to me?

The last point being pertinent for platforms with clients invested in discretionary managed model portfolios on their platform, as the rule points to the discretionary manager as being responsible for monitoring and alerting.

But how can they do that when they do not have visibility of the underlying client’s transaction data required to calculate performance, not to mention the fact that they typically do not know who the customer is?

The European Securities and Markets Authority (ESMA) tried to help by offering industry guidelines by way of a suggested calculation method. The problem was, this calculation method produced some strange and inaccurate results when compared to the more comprehensive performance measurement calculations.

As a result, many wealth management firms and platforms adopted calculation methods that were consistent with other performance reporting based on traditional money and time-weighted return calculations.

We were really intrigued by these challenges so we examined a cohort of 25,000 discretionary managed portfolios during the fourth quarter of 2018 and found that just under 5 per cent were reported during the period and around 7 per cent of models had clients who were reported during the period.