Is this a birthday to be proud of for the investment industry?
Since Mifid II came into force a year ago, industry figures have continued to debate whether it has fulfilled its goal of increasing transparency in the asset management industry.
The objective of making financial markets “fair, transparent, efficient and integrated” is a sizeable one. But has Mifid II lived up to that promise?
Resistance to change
A year on, disparities are emerging between how individual companies are complying with the ambitious legislation.
One of the core requirements that Mifid II brought to fund management firms was the disclosure of individual investment costs, as well as aggregate figures.
Months after the implementation date, some fund managers had failed to comply with this rule.
Wealth manager SCM Direct made enquiries to the FCA, which showed that the regulator had contacted 34 companies about potential non-compliance.
However, SCM estimates the number of firms failing to comply is more likely to be in the thousands.
The City watchdog responded that “enforcement is not the only regulatory tool at its disposal” and is not always the most appropriate, given the “size, complexity and magnitude” of the changes that Mifid II requires firms to put in place.
But SCM’s Alan Miller – an advocate for transparency in the investment industry – is less forgiving. He says it is an “absolute national scandal” that part of the industry “has been breaking the law for a year”.
He has urged the regulator to issue a so-called “Dear CEO” letter to all heads of investment firms about their responsibilities.
Association of Professional Fund Investors advisory board member and cost transparency specialist Sunil Chadda notes that asset managers that complied fully with the rules might be disadvantaged, since they may appear more expensive than peers who have not applied all the relevant disclosures.
Director, Chapters Financial Limited
Mifid II has been an interesting process and added extra time and duties to our client communications, particularly with the volatility over 2018 that saw some portfolios move down by more than 10 per cent and required a notice to affected clients accordingly.
I am not sure that any client has found any additional paperwork of benefit, indeed quite the opposite. However, that does not stop our responsibilities in providing these to clients in the correct order and in a timely fashion.
The international playing field
But while the FCA is criticised at home over its leniency, some of its peers from continental Europe are rumoured to be more lax regarding enforcing the legislation.
Chadda says: “I have heard from senior figures that German and Luxembourgian asset managers are openly hating the Mifid II and Priips rules about transaction cost reporting.
“We should have a flat, even landscape across the EU, like an EU member national competency authority. How can you monitor on an EU level when you don’t have national authority?
“I want to know if any of the funds and products that I’m buying are in these jurisdictions, because if they are, that would represent huge, unforeseen risks for me.
“To be honest my money stayed in UK products primarily for that reason.
“The UK might not be perfect, but from my experience consulting all over the world, it does it properly. I want to see the FCA say in a public space where it sits compared to other regulators from other EU members.
“All these investment cost regulations do not matter if they are not followed.”
Managing director, Shore Capital
I don’t think it has made that much difference to transparency on costs, and the introduction of the dreaded key information document has arguably made things worse for investors, with many complaining of misleading figures.
Most initiatives to improve anything often fail as they are badly thought through. Do investors care about costs to the nth degree? In falling markets, yes, but in rising markets, arguably not. It will be interesting to see in another year or so whether fund costs have fallen or risen and whether the hassle has been worth it.
Comparing apples and oranges
Others argue Mifid II laid an uneven playing field not just between countries, but between firms that are fully compliant with the rules.
Since it allows different methodologies to estimate transaction costs, the outcomes may naturally differ and investors and advisers are left with a comparison between apples and oranges.
Morningstar director of core managed investments Tim Walton is responsible for developing new methodologies and data to help end investors, their advisers and the industry at large.
Walton warns that transaction costs are, on closer inspection, operational costs borne by firms rather than costs for the end investor, and therefore bear little relevance to the fees they pay. He warns that there is no link between the two.
Walton believes Mifid II has made it easier for investors and their advisers to compare investment products though.
He says: “Regarding other costs data, the Mifid II legislation resulted in the industry coming together, under the guise of the European Working Group, to develop a template for dissemination.
“The template has been adopted by almost all participants and has led to an improvement in the availability and the comparability of the data.”
Mifid II has also had a significant impact on the research market, by introducing an unbundling requirement to separate research costs from trading commissions.
This rule aimed – in the spirit of fairness and transparency – to disrupt what many considered an opaque system. This left asset management companies with several options.
The initial assumption, that firms would pass the bill for research on to their clients, did not materialise, and most firms decided to pay for research out of their own pockets.
Last year, Fidelity International was one of the few large asset managers intending to make their clients pay for research.
It quickly made a U-turn on how to bill the research cost, and absorbed the cost itself, following pressure from clients.
A Fidelity spokesperson says: “Fidelity International has one of the largest in-house equity research capabilities outside of North America.
“We now have a proprietary, in-house research capability of 170 equity and fixed-income analysts covering over 3,300 companies on a daily basis.
“In addition to this, we utilise third party or ‘sell-side’ research, where it is in the interests of clients to do so, often to access deep technical expertise and domain knowledge that is not possible to capture in-house. Our decision to absorb these external research costs reflects our desire to act continually in the best interest of our clients.”
Broadly, we think that Mifid II has been positive for end clients. We have seen numerous important steps forward on the back of it that should end up enhancing competition and proving to be valuable for end investors.
A good example of this is cost disclosure, where we are seeing fund managers reflect the full cost of investing to clients, including transaction costs.
We have also seen strides made in helping to ensure that products are more fit for purpose. This is by having more scrutiny and more accountability for the target markets which the products are intended to serve. Although this regulation has added to our business burden, both in terms of cost and resource, it has resulted in better outcomes for clients in our opinion, and that is a very good thing.
Rory Maguire is a director at Fundhouse
Co-chief executive of institutional research aggregator RSRCHXchange Vicky Sanders says data shows that while analysts’ coverage of British blue-chip and mid-cap stocks has shrunk since Mifid II, the coverage of London’s mid-cap Alternative Investment Market stocks has actually risen 11 per cent.
She says: “The expectation that there would be a huge drop in coverage of small and mid-cap companies has not come to fruition.”
Sanders adds: “Similarly, there hasn’t been a substantial change in suppliers of research. We count 400-plus research providers as contributors to our platform and only three or four names have been acquired to date.
“Perhaps there is talk of more mergers and acquisitions in 2019 and I think we are just at the beginning of a trend of both bank and vendor consolidation. At the same time as Autonomous has been acquired by AllianceBernstein, Raymond James by MainFirst and then MainFirst by Stifel, Commcise has been bought by Euronext, Ipreo by Markit, Dealogic by Ion Investment, ITG by Virtu, Thomson Reuters by Blackstone and Fidessa by Ion.
“Vendor and bank consolidation is being impacted by Mifid II regulation but also by the amount of consolidation of their clients – the asset management firms – in the past two to three years.”
Asked whether the industry suffers from fewer analysts, or whether Mifid II helped to separate the wheat from the chaff, Sanders says: “It’s easier to argue in numbers and anecdotes that there were simply too many research reports floating around before Mifid II.
“It’s natural to expect some reduction in the overall quantity of research produced as clients are only willing to pay for what they value, and research departments are incentivised to write research that will be paid for.
“It’s a big ship to turn around but there are signs that resources are being re-allocated to less crowded spaces. How many of the dozens of analysts covering Vodafone will actually be paid by clients? Should stocks with coverage from only one or two analysts attract analysts from crowded companies now that the price of research has largely normalised and is no longer a function of liquidity?
“Clients are keen to cut out the noise and use their wallets to communicate to sell-side research departments that what they value is likely to achieve that. The noise is too many daily reports, pre- and post-earnings summaries. There is demand for quality, insightful reports from an array of research analysts. That’s the type of research which clients are willing to pay for.”
In June last year, the FCA launched a review into the application of Mifid II rules and the unbundling of research costs. The regulator then said that the probe would take six months. An FCA spokeswoman did not provide further details on when the results would be published, saying that it would be publishing the outcome “in due course”.
The spokeswoman says the FCA has “conducted a substantial amount of work in this area, including to understand and clarify our requirements and how effectively they have been implemented. Where necessary, we have already sought improvements”.
Transparency Task Force director Andy Agathangelou believes it is mainly up to the industry itself to step up its transparency game. He says: “The industry has the regulation that it deserves.”