The normally well-trodden route for changes to European financial regulations took a couple of detours in 2020 and it remains to be seen whether things will get back on track in 2021. The end of the Brexit transition period in December 2020 is already indicating that there will be regulatory divergence between the UK and the EU over time.
Topics covered (click to skip ahead):
AIFMD - UCITS - PRIIPs - SFDR - ESG - EFT - MiFID II - EMT v3.0 - TCFD - PEPP - FinSA - BIB - DDO
Jurisdictions covered:
Europe - United Kingdom - Switzerland - Australia
What did and didn't go to plan in 2020?
AIFMD Review, UCITS & PRIIPs Regulation
The European Commission flagged up this year that it is due to carry out a review of the Alternative Investment Fund Managers Directive (AIFMD) and ESMA, the European regulator, sent in its wish list, which included greater harmonisation with UCITS.
This then led to a request to review the rules around delegation of activities to third country entities under both UCITS and AIFMD, seen by many as targeting the UK, where many EU-domiciled funds delegate their investment management and other functions, as the proposal came shortly after the deadline to agree equivalence for the UK post-Brexit had passed without resolution.
At about the same time, the UK government published its plans for divergence from the PRIIPs rules, as the European Supervisory Authorities (ESAs, made up of ESMA, EBA and EIOPA) could not all agree to submit the updated Level 2 Regulatory Technical Standards (RTS) for PRIIPs to the Commission for endorsement.
Much has been written about the challenges faced by PRIIPs KIDs and we have written about them ourselves in March, May, July, August, October and November in 2020 alone, including a white paper here. We won’t raise all the arguments again here (read our July blog to see what is holding up the RTS), but we are now left not knowing whether UCITS KIIDs, seen as achieving their disclosure goals, will be removed at the end of 2021 and replaced by PRIIPs KIDs, whose content and calculations are still widely criticised.
Meanwhile, in the UK, the Financial Services Bill is on its way through Parliament. This may allow past performance to be shown on PRIIPs KIDs, and UCITS KIIDs to be left in place for up to five more years, until PRIIPs KIDs can be made fit for purpose.
ESG and the Sustainable Finance Disclosure Regulation (SFDR)
The other new EU regulation that didn’t quite go to plan this year was the SFDR.
Nobody can have missed the increased focus on sustainable investment or environmental, social and governance (ESG). But 2020 hasn’t been a good year for RTS, as the European Commission parked the draft RTS for the SFDR, saying that there isn’t enough time for a proper consultation and implementation by the first disclosure deadline of 10 March 2021. And, clearly, it would be unacceptable to put that date back.
Instead, we have the high-level principles in the SFDR itself and no detailed prescription of exactly what needs to be disclosed, or how. Fund groups and others will need to post clear and concise information on their websites and in pre-contractual disclosures explaining how they integrate considerations of the principal adverse impacts of their investments into their investment processes.
Advisers will need to publish a statement on how they integrate sustainability risks into their advice process and they will need to ask their clients if/how they want to include sustainability in their investments.
There are concerns that initially relying on principles-based disclosure, followed by prescriptive disclosure rules later, may lead to additional expense being incurred by financial market participants and added confusion around what is being disclosed.
Just to complicate matters, the SFDR won’t apply in the UK, as it is a victim of Brexit. Instead, in the UK, the FCA is due to consult in the first half of 2021 on reporting in line with proposals in the Task Force for Climate-related Financial Disclosures (TCFD) report and roadmap published in November 2020.
How might 2021 pan out?
European Fund Regulation & MiFID II
The fund industry continues to grapple with the complexities of MiFID II, almost three years after its introduction. One area that still has not been effectively resolved is the feedback from distributors to providers on sales outside the target market. With a large percentage of distribution carried out through platforms, there is a disconnect between those who hold the sales data and those who know the profile of the end client. An end does appear to be in sight, with an industry-wide European Feedback Template (EFT) coming ever closer, but only time will tell if it is really effective.
Also on the cards is a European ESG Template (EET) for funds to explain their ESG features, to supplement the European MiFID Template (EMT), which is itself in the early stages of being revised to include more ESG fields. With version 3 of the EMT only becoming the standard at the end of 2020 for fund groups to report the target market and costs and charges of their funds to distributors, everyone will no doubt be hoping it will be a while before version 4 comes out.
Although there were many other regulatory initiatives in Europe in 2020, I will now focus on the Pan-European Personal Pension (PEPP). The Level 1 Regulation in June 2019 introduced the PEPP as a portable pension to cater for those who live and work in different EU states. In August 2020, the draft Level 2 RTS were published, with rules on the content and layout of a PEPP KID and a PEPP Benefit Statement.
No company will be obliged to offer a PEPP, and those that do will need to register it in each country where it has set up a “sub account” to accommodate the country-specific tax and benefit treatment. Not surprisingly, given the long-term nature of pension savings and the many ways in which pension savings and benefits are taxed across the EU, the PEPP KID and PEPP Benefit Statement will cover more than the key information documents for UCITS or PRIIPs.
As PEPPs will only come into existence 12 months after the RTS and other delegated acts are officially passed into law, it is likely to be sometime in 2022 before we see the first PEPPs on the shelves.
Swiss Fund Regulation
The Swiss Financial Services Act (FinSA) – regarded as Switzerland’s MiFID II – came into force on 1 January 2020 and introduced the Basisinformationsblatt (BIB) or Key Information Document for products marketed there (watch our webinar here). Providers have until 31 December 2021 to produce their BIBs and the Level 2 ordinance helpfully says that a PRIIPs KID is acceptable as an alternative, even though the requirements are not identical.
The Swiss Collective Investment Schemes Ordinance was also updated from the start of 2020, to say that when a PRIIPs KID is used instead of a BIB for a foreign collective investment scheme, information on the fund’s paying agent, representative, country of domicile and availability of legal documents may be provided in an annex to the main document.
Australian Fund Regulation
Further afield, Australia is working on its own version of MiFID II, known there as the Design and Distribution Obligations (DDO). As the name suggests, these set out requirements on product design, including the provision of a target market determination (TMD), and also on how distributors are able to sell financial products to ensure they are only bought by those for whom they are appropriate.
At the time of writing, we are still waiting for publication of the Regulatory Guidance, similar to the RTS in Europe, which is expected to set out the details of what needs to be included in the TMD and how the feedback from distributors to product providers will be effected.
The DDO, like many other aspects of normal life, has been impacted by the coronavirus, with the implementation date put back from April to October 2021, but with no Regulatory Guidance yet and less than a year until the new date, there will be pressure on product providers, platforms and advisers to meet the timetable.
Perhaps 2020 has taught us that planning and control are always subject to late changes for a variety of reasons, but with several regulatory changes put on hold and promising talks of a new vaccine to relieve us from our new ‘temporary’ lifestyle, waiting until the last minute in the hope of firm rules is not always a good option. Even if a detour may be necessary later, it is better to be in the ‘planning’ camp for viable solutions to help you ride the next wave of regulatory changes, wherever you are.
Contact us to find out more about our regulatory data and document production solutions.
