The European Union’s focus on investor protection, especially in the retail market, deserves strong support and encouragement. The EU’s Packaged Retail and Insurance-based Investment Products Regulation (Priips) focuses on disclosure by requiring, effective from January 1, 2018, manufacturers of Priips to prepare key information documents (KIDs) for retail investors.
A KID will be required whenever investment products are made available to retail investors directly, through intermediaries or in the secondary market. It must be “accurate, fair, clear and not misleading”. It must also follow a standard template, include standardised disclosures and be no more than three pages long. The intention is to provide an easily understood and digestible document for all investors, whatever their level of sophistication.
While these are laudable aims, might they also prove to be dangerously over-ambitious? First, unlike Ucits, other retail investment products are not homogenous. The idea that they can be fairly compared on the basis of a risk scale from one to seven and a three-page document seems unrealistic.
Second, the methodology that the Priips manufacturer is required to utilise to determine the standardised information contained in the KID is anything but simple or transparent.
Third, preparing a KID requires numerous judgement calls, so what certainty is there that all KIDs will be prepared on the basis of the same assumptions and be properly comparable?
Fourth, to what extent is a KID appropriate for a product that is accessible to retail investors but not necessarily designed with them in mind? This includes many publicly traded investment companies. They share many characteristics with listed operating companies, for which no KID is required. Rather than having to follow the prescribed KID methodology to the letter, why shouldn’t listed funds be able to choose a conservative approach to disclosure in order to discourage retail investors or, at least, non-advised retail investors?
Fifth, might Priips create the potential for an ‘emissions scandal’ for retail investment products? With no transparency or audit regarding the calculations or judgements used to compile the information in a KID, how easy might it be to take decisions to portray a product in its best possible light?
Sixth, who will be held responsible when things go wrong? What if a Priips manufacturer prepares a KID in compliance with requirements but believes the finished document is uninformative or, possibly, potentially misleading?
And should regulators be responsible for losses caused by a KID prepared on the basis of a good-faith application of the relevant methodology? To what extent should a regulator be held responsible for determining the basis on which the risk profile of an investment should be characterised?
While in the longer term, the discipline of preparing a KID might help simplify and de-risk product design, treating products as interchangeable commodities can only be taken so far. Ensuring transparency from manufacturers has to be a good thing. But there can be no substitute for proper professional analysis, which requires knowledge and skill, costs money, and cannot be replicated in a summary format.
Jonathan Baird is partner at Hogan Lovells
©2018 funds europe
