Regulation will push advisers to offer passive, says Moody’s

Fears of mis-selling products will cause sales patterns of funds to change, driving more clients of advisers into passive funds, a report says. This is because advisers will step back from offering complex products to retail investors owing to regulatory trends that require advisers to know their clients better and offer products that are in clients’ best interests. Regulators around the world have pushed for greater transparency on costs and more disclosure on fees and potential conflicts of interests, says Stephen Tu, the senior analyst at Moody’s who forecasts the change in a report. He highlights the US, where the Department of Labor has adopted the fiduciary rule that Tu says is likely to accelerate the shift to passive and cause sales behaviour to change. "Under the new regulation, advisers are expected to ensure investments are in the best interests of their clients, rather than merely suitable for them. In practice, it will become more difficult for advisers to place their clients into higher-cost and more complex investment products. “Selling low-fee index products, on the other hand, will eliminate many apparent conflicts of interests and minimise fiduciary risk.” Ensuring funds reach their correct ‘target market’ is another possible regulatory driver in Europe. Target market forms part of the Markets in Financial Instruments Directive II. Persistent underperformance of traditional active management is also a driver for passive, notes Tu, and he points out that  consistent net outflows globally from traditional active funds into lower-fee passive products are “gathering steam” and will rise well above the level of one-third in the US. Moody's says it considers overcapacity in active management to be a primary cause of investment underperformance. ©2016 funds europe

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