The Financial Conduct Authority (FCA), the financial services regulator, is to introduce new rules that will make asset managers be more transparent about how they invest and provide more information on comparing funds' performance against benchmarks. The new rules are the outcome of an in-depth study of the asset management industry which began in 2015, and will come into force in three months' time for new funds and six months for existing funds. These rules follow changes to the way fund fees are disclosed.
Current rules require funds to state their objectives in marketing documents, but these tend to be vague and bland. For example, some literature simply states that “the aim of this fund is to provide long-term capital growth”.
The FCA said these objectives and descriptions should now include “relevant elements” of the fund's strategy that explain its investment style and how it is managed. This will include being clearer on where the fund invests, what types of investment instruments the fund uses and if it focuses on investments with specific characteristics, such as growth or value stocks. If a manager invests flexibly this should also be made clear.
“Firms should consider how to describe the objectives, investment policy and investment strategy in a concise way and without using jargon, to enable a retail [private] investor to understand the product,” said the FCA.
The FCA also said that asset managers need to be clearer about how, when and if a fund is managed with reference to a benchmark, and provide better information on how to best compare a fund's performance.
Current rules only require funds to disclose if a fund manager selects investments with a benchmark in mind and is in some way constrained, for example, a UK equity fund having to maintain the same sector allocations as the FTSE 100 index. However, the FCA suggested that some funds could have restraints such as linking their managers' pay to outperformance of a benchmark or linking a fund’s risk levels to a benchmark. And funds that do this should disclose it to investors.
Asset managers will also have to justify why they have chosen a benchmark if it is shown on marketing documents including fund fact sheets and key investor information documents (KIIDs). Some asset managers use one benchmark in some documents, but compare performance against another to try to make the fund's relative performance look better. But the FCA said asset managers must use the same benchmark across all investor documents. And if fund documents do not name any benchmark, because they are not run with reference to one, they must provide information on how best to compare the performance.
The FCA said: “We want investors to get improved information to explain what a fund does, how it does it and how to evaluate how well it is doing. There may also not be a readily available benchmark that corresponds with the way a fund is run. However, fund managers must still be able to explain how else to assess their fund’s performance. We do not think that where a fund has no benchmark, it should be up to the investor to assess a fund’s performance.”
Laith Khalaf, a senior analyst at broker Hargreaves Lansdown, said the new rules on disclosing benchmark constraints are very important. “Disclosure of investment constraints is particularly useful for investors seeking to identify closet trackers, which are likely to deliver consistent underperformance and poor outcomes for investors,” he explained.
Moira O’Neil, head of personal finance at investment platform interactive investor, said asset manager jargon is the industry’s own invention and seriously hampers investors. But she added: “The ball has been thrown firmly in the fund management industry’s court, so investors shouldn’t expect miracle cures any time soon.”
Shaun Port, chief investment officer at wealth firm Nutmeg, said there is no reason why asset managers can't tell investors what they will pay for a fund, and how it compares to other funds and a benchmark. “A change in behaviour is long overdue and the FCA should be prepared to take action where firms are dragging their feet,” he added.
