Speech by Christopher Woolard, Executive Director of Strategy and Competition at the FCA, delivered at the Securities Industry and Financial Markets Association's (SIFMA) 2017 Annual Meeting.
Speaker: Christopher Woolard, Executive Director of Strategy and Competition
Location: SIFMA’s 2017 Annual Meeting, Washington, DC, USA
Delivered on: 24 October 2017
Highlights:
- The efficiency and integrity of the asset management sector has direct consequences for the prosperity of millions of people, particularly in an era of historically low interest rates.
- In 2015 we launched our asset management market study, which found that competition was not working effectively in some parts of the market.
- In response we’ve devised a package of reforms to ensure enhanced protection for investors, greater clarity on what they’re buying and a better understanding of what they’re paying.
- These reforms are particularly important as we enter a new phase. Strong regulation attracts investment and high standards will continue to be an essential part of the UK system post-Brexit.
Note: this is the speech as drafted and may differ from delivered version.
Why asset management matters
The UK’s asset management industry is the second largest in the world, only the US is larger. Every day, huge sums course through the sector in the form of mutual funds, pension schemes and stocks.
And the financial future of millions of consumers ebbs and flows with it. Over three quarters of UK households rely on the asset management industry to grow their pensions and investments. And around 11 million savers hold investment products such as stocks and shares ISAs, which we could crudely compare to US 401(k) plans.
Overall, the equivalent of US $9 trillion is managed by asset managers in the UK, including around £2.7 trillion for overseas clients and over £1 trillion for retail investors. It plays a crucial role in directing investment and growing the wider economy.
Simply put, the efficiency and integrity of this sector has direct consequences for the prosperity of millions of ordinary people.
Last week the FCA published research on the Financial Lives of consumers in the UK[2], including the fact that although the introduction of auto-enrolment has provided a massive boost to the number of pension savers, around 15 million people aren’t saving enough to have a comfortable retirement.
Couple this with two other issues. First, with the interest rate in the UK today at a record low of 0.25%, it’s not hard to understand why consumers are finding building long-term wealth a challenge. And why asset management is taking on an ever greater importance.
Second, asset management is also an industry where compound effects over the long-term really matter. Take fees for example. Imagine person A is charged 0.25% on a £20,000 investment, while person B is charged 1%. Over 20 years, lucky person A will take home over £14,000 more than person B. Seemingly small differences, a difference of three quarters of a percent in this case, can actually have huge material impacts.
A strong case for reform
So there is a compelling case for us to ensure this vital industry is strong but is also working effectively and in the interests of the consumers we are charged with protecting.
Our journey started back in 2014 when we embarked on a strategic review of the wholesale sector.
This sparked a specific market study into the state of the UK’s asset management industry[3].
Our interim report was published in November 2016 following a year’s worth of work, in which 20,000 share classes and 30,000 asset management strategies were analysed. We concluded that there is weak price competition in a number of areas of the asset management industry.
Our final report, published in June this year after extensive consultation, confirmed these findings, concluding that the way asset managers compete, the role of intermediaries in helping investors choose between providers and investors’ limited awareness of charges all undermine competition in the sector.
The quest for genuine competition
In order to gain the most complete view possible, we drew on the experience of others.
This included looking at regulatory and market developments in a host of different countries – from Denmark to Australia to the United States.
Indeed, SIFMA were kind enough to host a roundtable for us with stakeholders from the mutual fund industry. The insights these conversations gave us on the US model were invaluable.
It is worth saying, however, that we differ to our peers in one crucial respect.
Unlike other regulators, and unlike our predecessor the Financial Services Authority, we have specific competition powers and a mandate to promote effective competition in the interests of consumers. This makes us something of a rarity.
It means we can look at whole sectors holistically, specifically from a competition perspective. That’s important to note, this study was mainly about improving competition not looking at misconduct.
Perhaps because of its unique nature, our competition mandate is frequently misunderstood.
Competition is not just about having low prices or a choice of numerous suppliers. Nor is it about simply demanding that dominant players are broken up.
It’s about firms tackling each other on the basis of service, quality and price in an arena where players compete on merit.
And as businesses jostle for position, consumers move towards those that genuinely meet their needs.
Henry Ford once commented: ‘Competition whose motive is merely to compete, to drive some other fellow out, never carries very far. The competitor to be feared is one who never bothers about you at all, but goes on making his own business better all the time.’
In the quest for genuine competition, the role of the FCA is not to control a competitive state of play in UK markets, but to enable it.
That means removing barriers to genuine and fair rivalry between firms and empowering consumers to make effective choices.
Where we want to get to
I’m sure few of us would question the validity of that task. The tricky bit is designing interventions that achieve that end.
Our answer in asset management is a comprehensive package of remedies which work together to make competition better in the market.
That ensure consumers get the best deal from competitive firms and where those firms that offer the best deal thrive.
The first, and I hope obvious thing to say, is that the asset management industry exists to serve the interests of its clients.
We see this ethos reflected in the approach of the best firms. Those that actively move clients into cleaner share classes (those that have been stripped of commissions). Those that seek value for money at every stage. Those that keep their clients front and centre of their thinking all times.
This is the ideal. But, as we discovered, some firms are falling someway short of this.
So we are proposing a set of remedies aimed at enhancing protections for investors. This includes a strengthened duty on fund managers to act in the best interest of their clients and increasing accountability through the Senior Managers and Certification Regime[4].
We are also proposing changes to governance. UK mutual funds differ from their US counterparts in that each individual fund does not have its own board of directors. Instead, each management company has a board responsible for its range of funds. Our proposal is that the boards of these companies have a minimum of two, or at least 25%, independent directors, increasing the level of scrutiny at a senior level.
The second category of remedies is aimed at providing investors with much greater clarity on what they’re buying.
The findings from our interim report demonstrated that knowing what to expect from a fund is a challenge even for the most engaged investors, and assessing whether a fund is performing well is no easier.
Our proposed reforms aim to change that. They include a requirement on firms to set out clear, consumer-friendly objectives, as well as providing consumers with information on how they should evaluate the performance of the fund, for instance using a target against a benchmark or absolute return.
The last category of reforms aims to improve investor understanding over what they’re paying for these services.
Here the context for these proposals becomes significant.
A number of regulatory changes which will impact asset managers are coming down the track.
One of the most high profile examples is MiFID II[5], a major European policy initiative that will come into force next year. You may well be familiar with the reforms relating to research payments, but MiFID II is much broader than that.
One of the most significant changes as far as asset management is concerned is that, under the reforms, costs and charges will be presented as one total charge, making it much easier for investors to see what they’re spending.
In order to improve the effectiveness of this type of disclosure, we are drawing on insight from our in house behavioural unit.
For example, we know that seemingly benign factors, such as where information appears on the page, have a huge impact of whether that information is absorbed by a reader (for reference, information provided at the top left of an online page is likely to receive more focus than information provided at the bottom right).
So we’ll incorporate these lessons into the final reforms.
We also want to see more innovation in this market. Three years ago we launched Project Innovate[6], and eighteen months later our regulatory Sandbox – a world first for a regulator, both designed to encourage more innovation. It’s fair to say we have had relatively few applications to the sandbox from asset managers compared to other parts of the financial services industry. Yet new technology could remove significant costs for customers. So the challenge is there and we are ready to work with firms.
We are also doing more to encourage more traditional new entrants to the market, and a fortnight ago my colleague Megan Butler launched our asset management hub[7] designed to make it more efficient to launch new funds.
Maintaining standards, boosting competitiveness
It’s fair to say that when most of these remedies were first floated in the interim report, there was consternation from some quarters. As a regulator this is something you come to expect. However, I have to say that since the final report was published, we have received support from many in industry, public policy and beyond.
A cynic might say that may be because the principles of transparency, value for money and acting in the best interest of investors are hard to disagree with, at least in public.
But, to adapt from Henry Ford again, culture means doing it right when no-one is looking.
Without appearing to be naïve, I like to think it’s also because many are starting to see the positive impact these reforms could have.
Particularly as we enter a new phase for the City. I’ve certainly been told by one major US group that they are choosing to invest in the UK precisely because of our regulatory reforms.
It’s not a stretch to say that today the question of how the UK maintains its competitive edge is top of mind for many.
One thing we do know is that a race to the bottom benefits no one.
As the Chancellor explained earlier in the year, whatever the shape of the final agreement, the post-Brexit process for regulating cross-border business ‘must be evidence-based, symmetrical, and transparent. And it must reflect international standards[8].’
High regulatory standards are an essential part of the UK system. A so-called bonfire of regulations would not serve anyone’s long-term interests.
The need to get this right
In terms of next steps, some proposals will start to take effect from 2018 with others requiring further consultation early next year.
Amongst all the research, remedies and consultation it’s worth reminding ourselves of the ultimate effect of this work; why it matters.
According the Pensions Policy Institute, in 2015 there were roughly 12 million people of retirement age in the UK[9]. In 2030, this figure will be approaching 14 million and by 2050 it will be nearly 17 million.
This side of the pond the story is much the same, with the number of Americans aged 65 and older set to rise from about 49 million today to over 79 million by 2035[10].
The integrity and efficiency of the asset management industry will have a profound effect on the financial future of these people and many others. As an industry you are going to be more important than ever.
We want them to see an industry where competition works effectively, where they can compare between managers and choose the one that best meets their needs, and where they know what services they’re paying for and how much they’re paying for them.
We want them to see an industry where governance is robust and asset managers operate in their best interests.
And we want them to see an industry that attracts investors from around the world.
In short, we want a genuinely competitive marketplace, one that maybe Henry Ford would be proud of. And we’re committed to delivering on that ambition.