Financial Regulation

Supplementary written evidence submitted by APCIMS

Having represented APCIMS at the 19 October witness session as a member of its Board, I am writing to inform you that I have taken up the role of APCIMS Chief Executive with immediate effect.

I would also like to take this opportunity to provide you and the other members of the Committee with material from APCIMS which seeks to outline our members’ concerns about both the current system of regulation as operated by the FSA and, more particularly, the RDR initiative.

The attachments to this letter have not been drafted specifically for the Treasury Committee – rather, they have been taken from various APCIMS working documents and help to show the concerns which we have been raising over a considerable time on these important issues. Briefly –

(1) In November 2009, APCIMS submitted a paper to Mark Hoban MP in response to the Conservative Party Policy White Paper titled "From Crisis to confidence: plan for sound banking". In our paper, we provided a detailed outline of how the consumer-facing regulatory body (which we titled the Retail Regulation Agency as opposed to then-proposed Consumer Protection Agency) could best be structured with a view to addressing the most persistent regulatory problem faced by our members, namely the FSA’s undifferentiated, "one size fits all" approach to regulation. As you know, APCIMS firms operate in investment markets on behalf of individual retail investors and are, consequently, subject not only to "retail" regulation but also to "market" regulation. As a result of APCIMS firms straddling this divide, their business is impacted on both sides by regulation that is drafted primarily with other market sectors in mind – for example, (a) as CRD investment firms, APCIMS members are subject to prudential requirements that are predicated almost entirely on the business of banks and major principal trading houses and (b) as advisers and managers to reasonably sophisticated retail investors with wide-ranging investment portfolios, APCIMS members are subject to product regulation that is predicated almost entirely on the mass market activities of firms whose whole business is based on selling such products.

(2) In April 2010, APCIMS produced the attached briefing paper outlining members’ major RDR concerns ahead of its Board meeting with Sheila Nicoll, FSA Director of Conduct Policy. While all of these issues have been repeatedly drawn to the FSA’s attention throughout the life of the RDR project (via meetings, correspondence and formal responses to consultation), the FSA has completely failed to grasp either the inappropriateness of regulation based on product sales for firms which offer relationship-based services to clients across a wide range of different investment types or the immense practical difficulty which implementation of these requirements poses for our firms.

(3) In October 2009, APCIMS wrote to Hector Sants outlining its considerable concerns about the legitimacy of the cost-benefit analysis underlying the FSA’s RDR proposals. APCIMS view was (and is) that the deficiencies of the CBA presented in FSA CP09/18 were so significant as to indicate that the FSA had failed to meet its obligations under FSMA section 155. Although the FSA rejected our criticisms, it did subsequently undertake further CBA work (about which we also had concerns) which resulted in massively increased costs with only very vague indications of likely benefits.

(4) This letter was drafted for submission to HM Treasury following a meeting with our Board and Sheila Nicoll from FSA on 21 May. It was decided that this would be covered at some future point with Mark Hoban. Given we are copying it to your Committee now, we have decided to pass a copy to Jonathan Taylor at the Treasury and will be following up also with Jonathan on the issue. The letter outlines the major competitive disadvantage that APCIMS members are put to as a result of the way in which the RDR’s independent/restricted divide is structured. Traditionally, APCIMS firms have offered services in relation to market-orientated, portfolio investments, not in respect of long-term savings products such as pensions and life policies. The FSA’s decision that independence requires a firm to be able to advise on all types of products from investment trusts to pensions means that the bulk of APCIMS members who currently fulfil the conditions for providing independent advice will in future not meet those conditions, regardless of the fact that they have not changed the way in which they do business.

I hope that these papers are of assistance to you and your colleagues in completing your inquiry on financial regulatory reform. APCIMS believes that the reform exercise offers a major opportunity for improving the UK structure of financial regulation but that the potential benefits will only be realised if sufficient attention is given to ensuring that regulation differentiates appropriately between different market sectors and types of firms and that regulatory bodies and their staff truly understand, and apply regulation on the basis of, such differences.

Finally, as per discussions at the 19th October Committee witness session, APCIMS is working to put together some outline figures for the costs which individual firms face as a result of regulation. I hope to get these to you in the next week or so and understand that 15 November is our final deadline for submission.

2 November 2010

Attachment 1

Extract from APCIMS submission (November 2009) in response to :

Conservative Party Policy White Paper : From Crisis to confidence : plan for sound banking"

NOTE : In response to the White Paper proposal for a Consumer Protection Agency and taking account of the FSA failings commonly identified by firms in its membership, APCIMS suggested a Retail Regulation Agency that should be structured/operated as outlined below.

DIAGRAM 2 : STRUCTURE OF RETAIL REGULATION

While it makes sense for all financial activity which involves the provision of investment and savings services to private individuals to be regulated by a single body, it is vital that the very significant differences between the different types of firms operating in the retail space are recognised and reflected in (a) appropriately targeted and nuanced organisational arrangements and (b) regulatory personnel who have in-depth knowledge, experience and understanding of the specific sector in which they are working. This is why we believe that the bulk of the RRA’s policy, supervision and enforcement activities should be undertaken in a risk-based fashion via a number of sector-specific divisions, not on a "one size fits all" centralised basis as they are now by the FSA.

(8) As regards the core operations of the RRA -

· we agree that the RRA’s governing body should include enhanced levels of consumer representation – the creation of balanced and practicable strategy requires input from both consumer and industry perspectives.

· we believe that further representation mechanisms will be needed below Board level in the form of wide-ranging standing groups. Although these could operate along the same lines as the current Financial Services Practitioner and Consumer Panels, the RRA could also choose to use these groups to gain valuable input from other entities which are active in, and whose activities have an impact upon, the retail financial services environment – e.g. lawyers, accountants, auditors, data providers, providers of research and performance measurement services, financial journalists.

· we believe that centralised policy formation should be limited to those areas which are genuinely common across all firms regulated by the RRA – referring to the current FSA Handbook, we would envisage high-level organisational requirements being covered in this way (e.g. general principles, senior management arrangements, threshold conditions for authorisation) while detailed requirements with specific bearing on firms’ business activities would be set by reference to the risks inherent in such activities by policy staff within the sector-specific divisions.

(9) As regards the RRA’s sector-specific divisions, although the definition of such sectors can never be an exact science and although certain broadly-based businesses will inevitably straddle the divides, we believe that the categorisation we propose is a reasonable reflection of both -

· the major retail business groupings currently in existence, namely (i) banking and deposit taking; (ii) product-based business, from both a creation/provision and a sales/advice perspective; and (iii) non-product investment advice/management. While product business is structured across two divisions to reflect the significant differences in scale and risk between manufacturers and distributors, there will inevitably be close links between the two, with manufacturers operating their own distribution teams, using platforms to make their products more generally available and providing facilities aimed at assisting advisers who distribute their products. The fund management arms of product companies – managing large pots of pension, insurance and investment monies and not involved in either the creation or distribution of products - are more likely to fall within the institutional ambit of the MRA.

· the way in which detailed regulatory requirements currently apply, e.g. for example, although APCIMS firms and IFAs both advise private individuals, the former, acting as intermediaries in respect of market-traded investments, are subject to the capital maintenance, systems and controls and risk management provisions of the Capital Requirements Directive while, the latter, acting as distributors of products manufactured by third parties, are not.

(10) Pursuing a thorough-going sector-specific approach as outlined in the bullets below, the RRA will have the opportunity to ensure that staff responsible for policy formation, supervision and enforcement in relation to particular types of firm develop an in-depth knowledge and understanding of those businesses and that this core of expertise drives the development of appropriate, risk-based regulation. Sir James Sassoon’s report refers to industry concerns about "the level of remuneration, expertise and market experience of FSA supervisory staff" – this is a constant theme amongst APCIMS firms, whose experience of FSA regulation has frequently led them to question whether the organisation has any understanding of their business and how it differs from that of product advisers. While it is clear that no structural arrangement can guarantee "perfect" regulation, we believe that the approach suggested could have a number of significant advantages, including -

· career progression for regulatory staff relying not on moving from one department to another picking up wide-ranging but superficial knowledge but instead on individuals becoming experts in their fields, capable of serious analysis of specific business models, of forming reasoned judgements on the basis of the evidence available and of identifying both potential failings and the best means of addressing them.

· enhancing the overall credibility of the regulator amongst authorised firms, giving them confidence that, in discussing issues with regulatory staff, they are dealing with individuals who understand their business and who will engage with them in a well-informed, proportionate and constructive way

· defusing the adversarial flavour that often characterises the relationship between regulator and regulated. While a regulator’s role requires it to be alert to failings and cautious about accepting information at face value, a regulatory approach based on a fundamental distrust of the industry is not healthy – as well as causing firms to react defensively and to have increasing recourse to their lawyers, it checks the possibility of constructive dialogue and makes it less rather than more likely that any difficulties will be speedily and effectively resolved.

More specifically, we propose that each sector-specific division should -

· have its own arrangements for securing input from practitioners, consumers and other stakeholders which, by maintaining a focus on the business area in question, complement rather than duplicate those in place at a higher organisational level. In the past, we have queried how FSA consumer research can be relevant to the regulation of our sector on the basis that it is almost always targets mass-market consumers with relatively small sums to invest/save rather than the more financially sophisticated and affluent clients of APCIMS firms – regulation predicated on consumers who have £500 per month to save does not make sense for firms advising clients who have sizeable investment portfolios.

· have its own arrangements for staff training and development – in keeping with the raising of professional standards which the FSA intends to apply via the Retail Distribution Review, we believe that all front-line regulatory staff should be expected to pass the same qualifications as individuals in the firms they regulate and should be subject to the same standards in respect of continuous professional development. The Sassoon Report suggests that financial institutions should be required to participate in secondment programmes for regulatory staff – we believe that compulsion is unnecessary and that many firms would be keen to assist the RRA in developing the expertise of its staff. A number of our member firms have already assisted the FSA with secondments while others have volunteered senior staff to provide training sessions for supervisors.

· have its own policy teams which develop policy not only on the basis of external influences (e.g. European legislation, changes to market structure) but with an in-depth understanding of the appropriateness of such policies for the sector they oversee. Our sector’s experience of the way in which the FSA develops and implements policy has not been a happy one, largely because the FSA’s "one size fits all" approach is driven by extremes (e.g. catering for the highest risk activities or for the biggest populations of advisers). A few examples might help to illustrate this point -

o in implementing the Capital Requirements Directive, the FSA focussed entirely on the banking sector, failing to appreciate (a) that the nature and scale of the risks assumed by investment businesses (particularly those dealing with retail investors) were different or (b) that standards developed with the major banks in mind were both disproportionate to the activities of retail stockbrokers and impossible for them to translate into terms that made sense for their businesses.

o in operating its Treating Customers Fairly initiative, the FSA’s industry benchmarks were developed around the concept of the product life-cycle while its output in terms of policy papers, guidance to firms and case studies was focussed almost exclusively on those areas of the product market where consumers were known to have received poor treatment (e.g. mortgage endowments, with-profits bonds, personal insurance). In spite of sustained effort on our part, the FSA completely failed to grasp how problematic it was for investment firms to apply regulation based on the one-off purchase of investment products to business predicated on the long-term provision of investment services.

o in undertaking the RDR, the FSA has again focussed almost entirely on curing the ills which have plagued the market for life, pension, insurance and savings products (e.g. product bias, provider bias, lack of clarity about costs) but has, at the same time, been unable to articulate how its evolving standards might impact the activities of investment firms. While FSA policy has veered from one extreme to another during the project’s development (e.g. from investment firms being fairly much exempt from the new standards to their being very significantly impacted by them), the FSA’s ability to explain the basis for applying revised standards to investment firms has been uniformly poor.

· have its own supervision and enforcement teams whose staff have a thorough understanding of the business models of the firms they supervise and who are able to apply regulation in a proportionate and risk-based way, demonstrating in-depth knowledge, practical expertise and judgement. At present, the concerns most commonly voiced by APCIMS firms about the FSA’s supervisory work are -

o that many of the FSA’s supervisory staff do not appear to have adequate knowledge or understanding of their business (i.e. the services involved, the types of clients acted for, the structure of business) and are, consequently, unable to address regulatory issues in the right context; and

o that too many junior supervisors, inadequately trained and under-prepared, are entrusted with tasks that they are simply not competent to fill, working their way through lists of pre-prepared questions which have quite clearly not been tailored to reflect the business activities and circumstances of the firm and which the supervisors themselves do not understand; and

o that supervisory teams change so frequently that there is no continuity or consistency of approach in the way a firm is regulated – this leads to huge duplications of effort (e.g. firms having to provide the same basic information about their businesses over and over again), to firms being unable to maintain routine dialogue with the regulator and to comments along the lines of "After 18 months, Supervisor X was finally beginning to understand how this firm works but now he’s been moved/left the FSA and we have a new supervisor whose background is in insurance/pensions.".

Attachment 2

MAJOR RDR ISSUES – BRIEFING PAPER FOR APCIMS BOARD

Headlines

The bullets below outline APCIMS’ major ongoing concerns about RDR policy as presented in PS10/6 with more detailed background given in the subsequent pages. This paper does not touch on the professionalism strand of the RDR on the basis that the comment period for CP09/31 has only recently closed and that final outcomes in this area are not yet known.

· The final rules presented in PS10/6 demonstrate the FSA’s failure to deliver on the reassurances it gave APCIMS during the early stage of the RDR project that the business models of private client investment management and stockbroking firms would be taken into account in its policy formation. As a result, the resources which APCIMS and its member firms have put into engaging with the RDR initiative have been rendered null and void by the FSA’s seeming inability to understand the nature of the business undertaken by APCIMS firms and to apply appropriate regulation to them.

· In determining the range of "retail investment products" to which the RDR applies, the FSA has (a) failed to take account of the different purposes for and ways in which investments may be purchased; (b) failed to provide sufficient clarity about exactly which instruments are captured by the definition; and (c) sought to apply UK-specific regulatory requirements to the PRIPs concept which is still being fleshed out by the European Commission.

· By requiring firms who wish to give "independent advice" to advise on all types of "retail investment product", the FSA is effectively forcing firms in the APCIMS community (whose business has historically been untainted by the ills that the RDR aimed to address) to either significantly re-engineer their business models or to re-designate as "restricted advice" services which meet the current criteria for independent, "whole of market" advice.

· Because the new requirements for disclosure of a firm’s advisory status relate solely to retail investment products and require no indication of a firm’s wider advisory service offering, APCIMS firms unable to advise on the full range of retail investment products will be at a significant disadvantage to independent product adviser firms notwithstanding that the latter will generally be unable to advise on other investments such as stocks, shares, bonds and derivatives. Furthermore, the requirement for oral disclosure of restricted advice status not only underlines the unfair presentational advantage which the RDR gives IFAs over APCIMS firms but also shows, in the drafting of the Handbook’s sample disclosures, the FSA’s failure to understand the nature of the advice which APCIMS firms provide in respect of certain types of investment product.

· Notwithstanding early recognition from FSA policy staff that APCIMS firms’ charges were both transparent to and levied directly upon clients, the FSA’s final rules requiring multiple disclosures of the charges applicable to business in retail investment products altogether fail to take account of the market-orientated way in which such firms undertake their business and the nature of both the advisory services they provide and the relationships they maintain with their clients.

· APCIMS maintains that the flaws in the FSA’s CP09/18 cost-benefit analysis were so significant as to call into question whether the FSA had met its statutory obligations under s.155 of FSMA. Subsequent reworking of the FSA’s analysis – undertaken in a very short timeframe and seemingly at a point when the FSA had already made its major policy decisions – has resulted in massively increased cost estimates.

Background

Failure of FSA policy approach

From the beginning of the RDR project, APCIMS expressed concern about how the RDR was intended to change the business practices of private client firms. It was told that, while all firms dealing with retail clients would be affected by the RDR to some extent, the FSA was aware that firms in the APCIMS community were already meeting many of the RDR’s target standards (e.g. agreeing charges directly with clients ahead of service provision) and that APCIMS should be reassured by the fact that the person taking the project forward was an ex-SFA regulator with a good knowledge of the sector.

However, notwithstanding the comforting messages that Amanda Bowe and her team gave to APCIMS firms during the early stages of the project – i.e. about the FSA "seeking market-led solutions", being in "listening mode" and having "the private client asset management and stockbroking community very much in our thinking" – the final rules have clearly demonstrated both the FSA’s complete focus on those retail market firms whose business is centred on mass market product sales and its inability to apply regulation in a nuanced fashion to firms whose business does not fit this description. So absolute has the FSA’s disregard of the concerns of the APCIMS community been that, even in instances where APCIMS has identified practical implementation problems rather than querying policy intent, the FSA has failed to respond with the result that firms are now facing the prospect of implementing requirements that make absolutely no sense in the context of their business (see the material below about the disclosure of "total adviser charges").

Throughout the RDR project, APCIMS and its members have put considerable resources into trying to ensure that FSA policy staff understood the nature of the private client investment management and stockbroking business and how it differed from the mass market, sales-driven business of product providers and retail financial advisers. Detailed responses to DP07/1 and CP09/18 included worked- through examples of the likely impacts of proposed rules; the APCIMS policy team had frequent meetings with a whole succession of FSA RDR policy staff in order to explain the business models of APCIMS firms and how the different elements of the RDR proposals were likely to impact upon them; and a number of meetings were arranged to enable FSA policy staff to meet directly with APCIMS firms to augment their understanding of how such firms operated and how their services and relationships with clients were structured.

These efforts have had no result either in terms of securing amendments to proposed Handbook provisions or considered responses to the detailed queries set out in our response to CP09/18. Even more worrying, they appear to have had little impact in raising the FSA’s minimal understanding of APCIMS firms’ business. So much so that, even though the rules have now been made, the FSA-prepared agenda of a recent meeting to discuss PS10/6 listed the following item –

APCIMS to talk though the process a client will go through when a typical firm meets that client for the first time

a) What service is being provided ?

b) How is that service paid for?

We find alarming the ignorance of our sector that such a question displays and we query how the FSA can have arrived at the conclusions presented in PS10/6 when it has so evidently failed to understand the most basic features of the business undertaken by a significant sector of firms affected by those conclusions.

Retail investment products

The RDR’s exclusive focus on RIPs and on the activities of provider/distributor firms whose business is wholly concerned with such products means that the FSA has given insufficient thought to how its revised rules will impact the business of firms whose services to clients extend beyond product advice. A regime designed to cover mass market sales of products to small-scale, financially unaware savers is not appropriate for the relationship-based services provided to affluent and financially able investors by APCIMS firms but the FSA has made no effort to recognise or accommodate the latter.

PS10/6 has also failed to respond to more specific concerns about the FSA’s use of the extended RIP definition. Specifically that -

· including market-traded investments within the RIP definition (e.g. investment trusts, ETFs) means that product rules predicated on long-term, illiquid investment do not work, e.g. providing a pre-transaction disclosure of costs for investments the prices of which are subject to market fluctuation.

· including complex products such as unregulated collectives and structured products in the RIP definition may increase the likelihood of mis-selling given the enhanced levels of knowledge/due diligence required for the provision of advice.

· lack of precision about exactly which instruments are included in the RIP definition creates uncertainty for firms (and supervisors) about implementation of the new requirements and also falls foul of the EU Commission’s acknowledgement of the need for a precise definition of PRIPs and for that definition to be supported by clear designation of the products that fall within scope. Are there practical problems ahead if the FSA’s RIP definition ends up being broader than the EU PRIP definition?

· the FSA has made use of the PRIPs concept, not only ahead of the Commission having finalised its work in this area, but also to support UK-specific regulatory concepts (e.g. independence) which the Commission does not recognise and has shown no intention of extending to other Member States.

"Independent advice" v "restricted advice"

In PS10/6, the FSA says that it does not feel there is a compelling case for an independent adviser to become restricted and supports this assessment by reference to Oxera research that indicates that 15% of independent firms would offer restricted advice or an execution-only service as a result of the RDR. While 15% may be an accurate figure in respect of all firms currently offering independent product advice, we have no doubt following discussions with our members that it seriously underestimates the proportion of APCIMS firms who will move from providing independent/whole-of-market advice in relation to packaged products to providing restricted advice in respect of RIPs. Some APCIMS firms have discrete financial planning arms or sister companies and, by amalgamating these businesses into one corporate entity, will be able to re-structure their client advisory processes in such a way as to meet the new independence criteria. The business models of most APCIMS members, however, are firmly focussed on readily-tradable investments and have never involved providing advice on the sorts of long-term, illiquid products that are the natural province of financial planners – as well as failing to grasp this distinction between the service offerings of stockbrokers/investment managers and financial planners, the FSA also seems to be unaware that many mass affluent clients retain a range of advisers and are quite specific about the services they require from each. The RDR’s "one size fits all" approach requires all firms wishing to provide independent advice to be full-scope financial planners and effectively means that the bulk of APCIMS firms, that currently provide independent/whole-of-market advice in respect of collectives (the only readily-tradable form of "packaged product"), will in future find themselves providing restricted advice even though there will have been no change to the services they offer or to the way in which they assess the product types in which their clients are interested.

Furthermore, the FSA seems not to have realised that, if firms have to live with the restricted advice label, there may be little point in them continuing to expend resources on the market analysis and research which currently supports their advice, and that their advice may therefore become more restricted over time. By forcing firms to assume a marketing label that does not in fact describe their services, RDR requirements are likely to reduce the availability of unbiased advice to clients.

Disclosure of advisory status

The descriptions contained in the new RDR provisions as to what constitutes "independent advice" or "restricted advice" are completely inappropriate for the investment-based, relationship-driven business of APCIMS members. Taking COBS 6.2A.6R as an example, (2) in respect of "independent advice" seems to describe what APCIMS firms actually do (i.e. provide advice that is unbiased as to provider in relation to certain types of product) while (3) describes restricted advice in a way which simply does not accord with most APCIMS firms' business (i.e. because their advice is not limited to products offered by one company, one group or a limited number of companies). The fact that the rules have been framed by reference to the business of product provider and distributor firms means that they describe advisory activities in ways which altogether fail to reflect the service offerings of APCIMS member firms. This is most clearly demonstrated by the examples which the FSA provides in COBS 6.2A.10G (below) of the oral disclosure that firms providing restricted advice must give to their clients, neither of which is likely to describe the activities of the average APCIMS firm.

(1) "I am a [Firm X] adviser offering restricted advice, which means that my advice is restricted to advice on [Firm X] [products/stakeholder products] only"; or

(2) "I am a [Firm X] adviser offering restricted advice, which means that my advice is restricted to advice on [products/stakeholder products] from a limited number of companies that [Firm X] has selected."

More practically -

· while APCIMS firms advising across a wide range of readily-tradable investments (stocks, shares, bonds, collectives, warrants etc) will be forced to describe themselves as offering "restricted advice" and provide an oral disclosure of the type outlined above because they do not advise on all types of RIPs, IFAs will be able to hold themselves out as independent even if they only advise on products and are unable to advise on any form of direct investment. As well as giving clients an erroneous impression of the respective ranges of advice available from IFAs and APCIMS firms, this will undoubtedly place the latter at a distinct (and, we would maintain, unfair) disadvantage in terms of marketing their services.

· many APCIMS firms derive a large proportion of their business from referrals by lawyers and accountants who are currently required by their own professional bodies to only refer clients to firms that provide independent/whole of market advice in relation to packaged products. If these requirements remain unchanged in respect of RIPs, many APCIMS firms will find a valuable source of business closed to them notwithstanding that their services are unchanged and that they can provide the direct investment services (including unbiased advice on readily-tradable investment products) that the majority of mass affluent clients require and which many IFAs are unable to provide.

Disclosure of adviser charges

Once again, the FSA’s rules in this area are predicated on one-off sales of long-term, illiquid products to financially unaware savers and make no allowance for the fact that many of the investments within the new RIP definition may be bought and sold on a regular basis by relatively sophisticated and well-off investors for trading, speculative and portfolio purposes. In particular, PS10/6 fails to address any of the points raised in APCIMS’ response to CP09/18 about the practicalities of disclosing "total adviser

charge" in a context where exchange-traded investments are subject to price volatility, where clients wish to trade as soon as advice has been received, where contract notes are likely to reach the client at the same time as any total adviser charge disclosure and where transactions are undertaken frequently in the context of an ongoing relationship.

If a client phones his broker and asks for advice on which of a range of investment trusts he should purchase, the new disclosure rules require the firm to provide (and the client to agree to) a disclosure of its "total adviser charges" before any transaction takes place. As well as this disclosure having to be made in a "durable medium", be expressed in cash terms and seemingly cover any ongoing management fees that may be levied in respect of the investment in question assuming a specific growth rate, it also seems more than likely that by the time the transaction actually takes place the price of the investment will have changed so that the details of the disclosure are no longer valid. Given that clients receive contract notes with full details of the terms upon which a transaction has been effected the day after execution, the requirement for a separate pre-execution disclosure is nonsensical. In discussing this issue with FSA policy staff during our recent meeting, we found it alarming that they expressed surprise upon hearing that APCIMS firms provided advice to clients over the phone, a further indication that RDR policy has been determined without understanding of the way in which private client firms carry out their business.

FSA cost-benefit analysis

APCIMS continues to believe that the FSA failed to meet its statutory obligations in producing its cost benefit analysis of the CP09/18 proposals – briefly stated, the CBA was based (a) on earlier and substantially different proposals from those actually consulted on and (b) on responses to a survey that was drafted from the perspective of firms whose entire business was product-based and that failed to cover the entire universe of products which the RIP definition has since been expanded to include. While we are aware of the further CBA work undertaken by the FSA earlier this year, we note that this was centred on a survey which firms had a very short period to respond to, which was once again targeted at the business of product providers and distributors and which appeared to have been undertaken specifically with a view to providing post-facto support for policy conclusions which the FSA had already determined upon. Even taking these limitations into account, the reworked analysis indicated that the estimated costs of the RDR initiative have increased massively.

The FSMA rationale for requiring cost benefit analysis to be undertaken in relation to major policy proposals is that it should be taken into account in determining whether such proposals are carried forward. We believe that the FSA’s approach to its CP09/18 CBA was deeply flawed and that as a result due process has not been followed in respect of the RDR

Attachment 3

15th October 2009

Mr Hector Sants

Chief Executive

The Financial Services Authority

25 The North Colonnade

Canary Wharf

London E14 5HS

Dear Hector

CP09/18: Distribution of Retail Investments - Delivering the RDR

We have submitted to the FSA our detailed response to the above consultation paper.

Regrettably, in our view the deficiencies in the cost benefit analysis published in support of the proposals in the consultation paper are so significant that they indicate that FSA has failed to meet their obligations under FSMA S155. We have received external legal advice which supports our view. We attach as an appendix to this letter an extract from our response which provides further information.

We would welcome further clarification from the FSA as to why, in light of the deficiencies we have identified, it is satisfied it has met its statutory obligations.

We look forward to your response.

Yours sincerely

David Bennett

Chief Executive

Extract from APCIMS’ Response to CP09/18: Distribution of Retail Investments - Delivering the RDR

Cost benefit analysis

We struggle to understand how the FSA considers that it has met its statutory obligation under FSMA s.155 (or, indeed, vis-à-vis its own principles of good regulation, particularly as regards proportionality) to provide a cost-benefit analysis of the CP09/18 proposals when a large part of its analysis is based on a survey of compliance costs and changes to business models by Deloitte which was based on early policy assumptions of the RDR proposals as published in Feedback Statement 08/06. FSMA s.155(10) defines a cost benefit analysis as "an estimate of the costs together with an analysis of the benefits that will arise if the proposed rules are made" – however, because the CP09/18 CBA is based on research undertaken in pursuit of earlier policy assumptions, it cannot be truly said to address the rules proposed in CP09/18. Given the potential impact of this initiative on the entire retire financial services industry, we do not think it is acceptable for the FSA to publish a CBA which does not actually address the proposals subject to consultation.

More specifically –

· the FS08/6 outline of the FSA’s RDR policy was at such a high level of generality as to preclude firms from undertaking any meaningful assessment of the potential costs involved – as the FSA will be aware from the meetings and correspondence which we had between the publication of FS08/6 and CP09/18, APCIMS identified a large number of issues in relation to which its members considered the FSA’s policy intent unclear and where further clarity was needed before firms could make any informed judgements about the proposals’ likely impact.

· the extent of policy development that has occurred between FS08/6 and CP09/18 is particularly marked in relation to the concept of independence – while FS08/6 talked about two outcome-focused principles for independence which would apply across all forms of investment advice but would recognise that the whole market means different things for different firms, CP09/18 takes a far more stringent approach which basically limits the provision of "independent advice" to those who advise on all types of RIPs, regardless of whether those products are a natural part of their business offering or whether advice is given on any instruments outside of the RIP definition. We think it is fair to say that the high-level content of FS08/6 did not prepare our firms for the extremely restrictive proposals on independence published in CP09/18.

· the "Deloitte survey of retail investment intermediaries" undertaken in February 2009 was very clearly drafted from the perspective of firms whose entire business is centred upon the sale of products, whose advisers are remunerated largely upon the basis of sales and whose continued existence might well be called into question by the ending of product provider commissions. At the time, we commented on the inappropriateness of the survey for the business undertaken by our members and indicated that APCIMS firms were unlikely to feel themselves under any compulsion to respond to a questionnaire that had so obviously been drafted with absolutely no regard for their business models. We also note that many of the questions in the survey focussed upon specific products (packaged products, collectives, annuities, mortgages and protection products are all listed several times) but that there was no reference to either the wider universe of financial instruments to which FS08/6 suggested that the concept of independence would apply or the non-packaged products which have since been incorporated into the RIP definition (i.e. unregulated collectives, investment trust securities, structured products and any other designated investment which offers exposure to underlying financial assets, in a packaged form which modifies that exposure when compared with a direct holding in the financial asset).

Consequently, APCIMS does not believe that the research undertaken on the basis of the outline proposals contained in FS08/6 is sufficiently relevant to form a major part of the CBA for the significantly altered proposals in CP09/18. As well as failing to take into account changes to the scope of and criteria for "independent advice", the CBA also fails to consider either the likely costs to firms of drawing complex instruments into scope (e.g. undertaking more research/due diligence, redrafting investment procedures, instituting further safeguards around risk assessment and suitability, providing more risk information to clients) or the serious potential for mis-selling and consumer detriment. We believe that the FSA’s statement in Annex 2 of CP09/18 that cost estimates based on the Deloitte’s survey may be subject to a margin or error is disingenuous to say the least. In addition, the suggestion that firms should provide us with new information that may impact on these estimates as part of the consultation process looks suspiciously like the FSA trying to offload its responsibility. It is the FSA that is required to support any draft rules which it publishes with a cost-benefit analysis with section 155(10) of FSMA requiring that analysis to be an estimate of the costs together with an analysis of the benefits that will arise ….. if the proposed rules are made. It is hard to see how a CBA which depends in large part upon research undertaken in respect of significantly different proposals meets those criteria.

We also query whether Deloittes itself was less than happy with the research it produced. While we appreciate that it is common practice for professional advisers to seek to limit their liabilities by the use of standard disclaimers, some of the comments in the "Limitations" section which prefaces the Deloitte report would appear to call into question the legitimacy of the data collected through the survey and, indeed, whether the FSA can be said to have acted in good faith in relying upon it, specifically as regards a later and significantly altered set of proposals. In this respect, we point specifically to Deloitte’s comments that –

· As firms are being asked to anticipate costs in relation to an event some years in the future, and in relation to proposals where details of these requirements have yet to be confirmed in some areas, firms may experience difficulties in providing accurate cost estimates.

· In some segments and cost categories, the sample size is small, meaning that the results cannot be considered statistically significant.

· The work has also been limited by the time frame made available to Deloitte to undertake this engagement. No follow-up or verification of cost estimates provided by respondents to the e-survey has been made. Due to these limitations and low response rates in certain categories the FSA will need to conduct more work to further explore the aggregate impact on the industry.

Furthermore, we would contend that the FSA has not even met the standards which it has set for itself in relation to CBA. For example, there is little evidence in either Chapter 7 or Annex 2 of CP09/18 that the six-stage process set out in the third of the FSA’s Occasional Paper series ("Cost-Benefit Analysis in Financial Regulation – How to do it and how it adds value") has been followed in respect of the proposals subject to consultation. It also appears that elements of the guidance which the FSA produced to help its own staff to adopt a systematic approach to CBA ("Practical Cost Benefit Analysis for Financial Regulators") have been lost sight of. For example, chapter 2 states that Since it is more important to be sure about major policies than minor policies …. a major policy requires a CBA of greater scope than a minor policy. Chapter 2’s "Hints for Conducting a CBA Efficiently" also suggest that a CBA should be as specific and concrete as possible. While the RDR certainly falls within the definition of a "major policy" (with the FSA’s own website describing it as one of the core strands of our retail market strategy involving changes that are far-reaching and challenging), the CP which aims to give effect to it carries a CBA which is neither wide-ranging nor specific to the detailed rule proposals involved.

Finally, we note the comment in the Practitioners Panel Annual Report for 2008-2009 that In cases where the CBA case is weak or non-existent for an initiative, the decision should be taken not to proceed or any decision to proceed in the face of the CBA should require more extensive justification." We believe that the cost benefit analysis in respect of the CP09/18 proposals is extremely weak and we will be writing formally to the Panel to inform them of our view.

Attachment 4

HM Treasury

1 Horse Guards Road

London

SW1A 2HQ

Dear

The FSA’s Retail Distribution Review

I am writing to alert you to an issue which is causing a great deal of disquiet among the investment firms in APCIMS membership and which will result in the RDR having a significantly negative impact on the competitive position of a constituency which was not in the FSA’s sights when it specified the original aims of the project. Both before and since the general election, the Conservative Party and the new Government has indicated that a change of government, while likely to result in a major rewrite of the UK regulatory structure, would not prevent the RDR from progressing to implementation. Given the nature and scale of the problems that the project sought to address and the time, energy and resources committed to it by all parties, that is absolutely the right decision. What we would like to do, however, is to encourage HM Treasury to bring its influence to bear in improving one particular aspect of the FSA’s RDR implementation plan which promises to do more harm than good.

When the FSA first launched the RDR, it identified a range of problems with the distribution of retail investment products that undermined consumer confidence and resulted in many UK citizens being loath to seek financial advice or to engage with the financial services industry in any way. These problems – overly complex charging structures, high volumes of switching between products, low levels of product persistency and the prevalence of product/provider bias driven by advisers’ focus on commission income rather than consumer interests – were clearly identified as being related to the distribution of mass market retail products and not to the provision of the sorts of on-going investment services that APCIMS member firms specialise in. Indeed, when APCIMS expressed early concerns about how the RDR would affect private client firms which are already subject to the enhanced regulatory requirements imposed by MiFID and the CRD unlike most product advisers, the FSA said that it was aware that firms in the APCIMS community were already meeting many of the RDR’s target standards (e.g. agreeing charges directly with clients ahead of service provision) and that APCIMS should be reassured by the fact that the person taking the project forward was an ex-SFA regulator with a good knowledge of the sector.

Taking in good faith the FSA’s indications that it was "seeking market-led solutions" and had the private client community very much in its thinking, APCIMS engaged fully with the consultative process, providing detailed responses to FSA papers, meeting regularly with FSA staff and facilitating contact with and the collection of data from our firms. It is, therefore, extremely disappointing that the RDR development process should have been marked by such major flaws. For example –

· Cost-benefit analysis : we firmly believe that the CBA which the FSA produced in support of its proposals failed to meet the required FSMA standards. As well as being based on substantially different proposals from those actually consulted on, the CBA also relied on responses to a survey that was drafted from the perspective of firms whose entire business was product-based and that failed to cover all the products impacted by the RDR proposals. Recognising the inadequacies of its original CBA and seemingly keen to provide post-facto support for policy decisions already taken, the FSA carried out a further survey which indicated that the estimated costs of the RDR had increased enormously with one-off costs rising from £430m to £605-750m and on-going annual costs from £40m to £170-205m.

· Policy drift : as well as being unable to clearly explain how the RDR was intended to apply to different types of products, services and firms, the FSA has also been guilty of wide-ranging policy shifts between each of its public papers. Consequently, the scope of the RDR proposals has moved from the traditional range of "packaged products" to all designated investments (including securities and bonds) to a broad range of "retail investment products", only some of which are clearly defined. Similarly, the range of firms affected has shifted from product providers/distributors to all firms dealing with retail investors to retail advisers. This fluctuation – not aided by the many changes to the FSA’s RDR policy team – has made it difficult for industry to engage constructively and consistently with the project, particularly when research undertaken and feedback provided in relation to one set of proposals is seemingly rendered valueless by the next phase of the project proposing something completely different.

· One size fits all : notwithstanding the FSA’s assurances that the business models of APCIMS firms would be taken into account in forming policy, it is clear that the final shape of the RDR is wholly predicated on mass-market product distribution and that the concerns of other constituencies have been overlooked. Much of APCIMS’ response to the FSA’s last consultation was dedicated not to querying policy intent but to identifying practical implementation problems arising from rules drafted with one market in mind being applied to another with fundamentally different customers, services and investment approaches. Having finalised its rules without responding to these problems in any way, the FSA has since realised that certain of its requirements are not capable of sensible implementation in the context of APCIMS firms’ business and has indicated that it will have to work with us to produce guidance which will effectively adapt the rules to fit hitherto ignored business models.

The FSA’s blinkered approach has resulted in rules which will pose significant implementation difficulties for our firms – e.g. applying product regulation to market-traded investments, analysing markets for which public data is limited and providing product charge disclosures out of context with overall service tariffs. While these issues will be costly and resource-intensive for firms to address, they are not "show-stoppers" – firms will make the necessary changes to systems, procedures, documentation and business practices and will be compliant with the new RDR rules once they take effect. The one area where compliance will be altogether more problematic and where APCIMS firms believe that the RDR will be massively and unfairly damaging to their business relates to the rules whereby the advice that firms provide in relation to retail investment products is categorised as "independent" or "restricted".

Under the new RDR rules, a firm will only be able to hold itself out as offering "independent advice" if it advises on all types of product falling within the FSA’s "retail investment product" definition, ranging from unit trusts and investment trusts to pensions and life assurance. The services of APCIMS firms are firmly focussed on readily-tradable investments (stocks, shares, bonds, gilts and collectives) and have never involved providing advice on the sorts of long-term, illiquid products that are the natural province of financial planners. In the past, this has not been problematic – firms have provided independent, whole-of-market advice in relation to unit trusts (which play an important, complementary role alongside direct investment portfolios) but have not advised on life policies or pensions, instead directing their clients to specialist financial planners for such services. Now, however, to attain "independent" status, firms will have to be able to advise across all product types regardless of how such products fit within the firm’s business model and service offering. This has major practical ramifications including a marked distortion in the competitive base from which different types of firms operate.. For example -

· while APCIMS firms advising across a wide range of readily-tradable investments (stocks, shares, bonds, collectives, warrants etc) will be forced to describe themselves as offering "restricted advice", IFAs will be able to hold themselves out as independent even if they only advise on products and are unable to advise on any form of direct investment. As well as giving clients an erroneous impression of the respective ranges of advice available from IFAs and APCIMS firms, this will undoubtedly place the latter at a distinct and unfair disadvantage in terms of marketing their services.

· many APCIMS firms derive a large proportion of their business from referrals by lawyers and accountants who are currently required by their own professional bodies to only refer clients to firms that provide independent/whole of market advice in relation to packaged products. If these requirements remain unchanged, many APCIMS firms will find a valuable source of business closed to them notwithstanding that their services are unchanged and that they can provide the direct investment services (including unbiased advice on readily-tradable investment products) that the majority of mass affluent clients require and which many IFAs are unable to provide.

Although APCIMS has discussed this issue with the FSA several times in recent weeks, the FSA professes not to understand either the disadvantageous position in which the new rules place APCIMS firms or the anger which firms feel at finding that they are so negatively impacted by a project that was aimed at abuses arising in other sectors. The "sop" offered by the FSA is that the majority of APCIMS firms that do not advise on life policies and pension schemes, though obliged to declare that they provide "restricted advice", may also use terms such as "unbiased", "focussed" and "exclusive" to highlight the advantages of their services. Given the clear difference in terms of quality of service which the FSA’s rules on independent and restricted advice imply, the fact that the FSA’s own consumer research clearly indicates that "independent" has positive connotations for consumers while "restricted" has negative ones and that consumer education initiatives ahead of RDR implementation will publicize this distinction, APCIMS firms do not believe that permission to add a qualifying adjective or two to their disclosures is a satisfactory response to major and well-founded concerns about both loss of business and the appropriateness of a regulator introducing measures without considering the very significant impact they may have on the relative competitive positions of different sectors of the retail financial services industry.

APCIMS accepts that major revisions to made rules which have passed through the FSMA-required processes of consultation and CBA (albeit in imperfect form) are highly unlikely. We do, however, believe that the regulatory burden which has been unfairly and unthinkingly placed upon our constituency could be ameliorated by changes to RDR guidance which would not themselves require further consultation or CBA. The made rules specify that, for a firm to provide offer independent advice, it must advise on all investments in its "relevant market" with guidance indicating that, for most firms, the "relevant market" will generally include all retail investment products. What would make more sense and allow for different constituencies’ business models would be for "relevant market" to be construed in the context of the services offered by a firm – so, for a typical APCIMS firm advising on unit trusts and investment trusts but not on life policies and pensions, the "relevant market" would consist of the former and the firm’s advice would be independent if it fulfilled the conditions specified for independence in the RDR rules, i.e. "unbiased and unrestricted" and "based on a comprehensive and fair analysis of the relevant market".

Conversations with senior FSA policy staff on this issue have indicated that the FSA has no appreciation of the potential which its rules have for significantly distorting competition in the retail financial services market. APCIMS’ Chairman has taken this issue up with Lord Turner and I would very much welcome the opportunity to discuss it further with you to see whether there is anything that can be done to avoid APCIMS firms having to operate on a playing field made manifestly unlevel by the overly sweeping approach of the regulator.

Further supplementary written evidence submitted by APCIMS

We have now obtained some cost data which will hopefully begin to satisfy the Committee's desire to learn more about compliance costs in firms.

Firstly, here is specific data for six of our member firms with the annex to this letter indicating the types of firms covered:

APCIMS Member Firms: Costs of Compliance

Secondly, it is worth noting that most of the percentage of turnover figures in the table above matches with a figure of 3.6% which was obtained recently across a broader sample of our members as part of an annual survey on costs and trends (ComPeer).

Thirdly, we have also begun to receive specific data related to how much the total compliance cost (including compensation scheme payments) has increased in the last few years. Some of this data will need more work as it needs normalising either because the firm has changed and/or their business model has changed. However, it is not unusual to find instances where the compliance cost has risen by 30% and, in extreme cases, more than doubled in the last three years.

We trust this gives you and your Committee sufficient information for now. If we can be of any further assistance, please do get in touch.

Annex

Firm A

• Small (Funds under Management)

• Predominantly Execution-only with Advisory and Discretionary

• Headquarters outside London

• Branch offices throughout the UK

Firm B

• Large

• Full Service (Ex-only, Advisory and Discretionary)

• Headquarters in London

• Branch offices throughout the UK

Firm C

• Large

• Discretionary

• Headquarters outside London

• Branch offices throughout the UK

Firm D

• Large

• Full Service

• Headquarters in London

• No Branch Offices

Firm E

• Large

• Discretionary

• Headquarters in London

• Branch office in Channel Islands

Firm F

• Medium

• Advisory

• Headquarters in London

• Branch offices in south England