AJ Bell boss Andy Bell has compared the Mifid II 10% drop rule with “slipping a note under a cabin door on the Titanic advising that the shower has sprung a leak”, as the Financial Conduct Authority (FCA) is forced to relax the measure until October after coronavirus volatility sends markets plunging.
The rule which is part of the Mifid (Markets in Financial Instruments Directive) II package of measures introduced in January 2018 makes it obligatory for discretionary investment managers to notify clients when the value of their portfolio, as evaluated at the beginning of each reporting period, drops by 10% and thereafter at multiples of 10%.
The rule has been brought into sharp focus as global stock markets have been battered by the impact of the coronavirus outbreak.
Since 20 February, the Ftse 100 has lost 24.5%, the All Share has lost 26.2% and the Stoxx Europe 600 has shed 22%, according to FE Fundinfo. The S&P 500 meanwhile has fallen 19% and the MSCI Emerging Markets index has shed 21%.
Dear CEO letter
The measures have never been popular among industry participants, many of whom feel it is a blunt instrument that incites anxiety and panic among investors.
The need to notify clients has taken up a significant amount of time for DFMs, platforms and advisers with discretion over client portfolios in recent weeks.
The Mifid II directive is enshrined in EU law meaning the FCA does not have the power to cancel the 10% rule.
But on Tuesday the regulator published a ‘Dear CEO’ letter to firms detailing a more lenient approach after receiving “hundreds of requests for adaptations to our regulatory approach from trade associations and firms”.
It says: “We have no intention of taking enforcement action where a firm:
- has issued at least one notification to a retail clients within a current reporting period, indicating their portfolio has decreased in value by at least 10%; and
- subsequently provides general updates through its website, other public channels (such as social media) and/or generic, non-personalised client communications. These communications should update clients on market conditions, explain how clients can check their portfolio value and invite clients to contact the firm if they wish; or
- chooses to cease providing 10% depreciation reports for any professional clients.”
Well-intentioned but blunt instrument
AJ Bell has experienced an increase in the manual effort required to ensure the accuracy of reports and auditing calculations. Many of the firm’s clients with discretionary accounts have received at least one notification and some have received more than one, but chief executive Andy Bell is not a fan.
He said: “The 10% rule may be well intentioned but in times of extreme market volatility like we have seen recently the notifications are as useful as slipping a note under a cabin door on the Titanic advising that the shower has sprung a leak.
“They can increase customer anxiety and are a blunt instrument. We have already asked the FCA to put a temporary suspension on these notifications until the coronavirus crisis is over and more stable market conditions return.”
Fellow platform Quilter says it has written to advisers whose clients’ managed portfolios have dropped by 10% or more but has been providing weekly updates as standard.
Quilter UK platform managing director Scott Goodsir says the measures may encourage knee-jerk reactions to market shocks.
“We have been providing advisers with weekly updates and are working with them to reassure customers and provide insightful and helpful information to guide them through this volatility,” he said.
“Predicting global events in an effort to exit the market and its peak and buy back in at the bottom is a risky guessing game and we’re aiming to support advisers to articulate the need to stay invested and take advantage of a future market recovery.”
Covid-19 makes life difficult for DFMs
Pimfa director of regulation Ian Cornwall says advisers, wealth managers and platforms have faced the difficult task of reconciling the obligation to notify clients of a 10% fall with their duty to keep staff safe and follow the government edicts not go to work as covid-19 continues to spread.
This means some companies might not have the staff available to send out the letters, he adds.
“The virus will hit firms differently across the country and within the same location and that means the skill sets of individual staff available at any one time will vary from firm to firm.”
Cornwall says for such firms the priority should be on communicating with vulnerable and inexperienced clients.
“These are the people who are more likely to be unsure of the impact on their portfolio than experienced investors who have lived through a few bull markets,” he said. “That should be where they’re diverting their resources; trying to shove thousands of letters out the door is actually very resource intensive.”
Notices redundant by the time they are received
Fairview Investing investment consultant Gavin Haynes has been against the rule since it was introduced, a view that has been reinforced by recent weeks.
“I imagine a large proportion of investors in equity focused portfolios will have received at least two letters. During periods of high volatility the 10% notices can be redundant by the time they have been received, as illustrated by sharp daily market falls and bounce-backs we have seen in the past fortnight.”
Haynes says most clients will have access to online daily valuations, or an adviser they can speak to about their portfolio who can provide an objective view and reassurance.
“Clients will also receive a quarterly periodical report which for most long-term investors is perfectly sufficient to ensure they remain informed,” he said. “I certainly believe that the 10% rule should be reviewed.”
Threshold
Gibbs Denley Investment Management investment manager Tom Sparke says his firm tracks the portfolio performance figures daily and informs IFA clients if the threshold is close, or has been breached, but the actual notification is sent directly from the platform.
“Our models held up above this threshold much longer than many others of similar risk profile but the falls were such that it was necessary for most of our portfolios.
I do think that as long as communication is good between the client and their adviser, there is no need for this heavy-handed approach, which could easily spook investors into selling their assets at the worst possible time.
“If the combination of bad communication and the 10% drop email come together this could be an especially potent shock for clients.”
Sparke would prefer an approach whereby the FCA integrates an analysis of communication to the client into its regular checks, similar to what it does for suitability reports. This would look for clear and open dissemination of the information to the client within an appropriate timeframe, he says.
“The effect on firms who are rushing out potentially thousands of emails to clients within a small window of time compromises the work they can do elsewhere which is especially punitive for smaller firms.”
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