On 20 July 2021, the FCA published a long awaited consultation paper seeking views on proposed amendments to address concerns with the UK Packaged Retail and Insurance based Investment Products (“PRIIPs”) Regulation (“UK PRIIPs Regulation”), including the lack of clarity on the scope of the UK PRIIPs Regulation, misleading performance scenarios and summary risk indicators, and concerns with the transaction costs calculation methodology.

It is a timely intervention given the FCA’s current consultation on the introduction of a consumer of duty of care as, unamended, PRIIPs would have put asset managers under acute pressure in this regard. See here our blog post on the proposed consumer duty of care.

In summary, the consultation sets out the FCA’s proposals to address some of what it considers to be the most serious and persistent concerns. This includes:

  • introducing rules to clarify the scope of the UK PRIIPs Regulation in relation to corporate bonds, making it clearer that certain common features of these instruments do not make them into PRIIPs;

  • introducing interpretative guidance to clarify what it means for a PRIIP to be ‘made available’ to retail investors; and

  • amending the UK PRIIPs regulatory technical standards as set out in Commission Delegated Regulation (EU) 2017/653 (as adopted into UK law via the European Union (Withdrawal) Act 2018 and Packaged Retail and Insurance-based Investment Products (Amendment) (EU Exit) Regulations 2019 (SI 2019/403, as amended by SI 2020/628 and other instruments)) to:

    • replace the requirement and methodologies for presentation of performance scenarios in the KID with a requirement for narrative information on performance;

    • address the potential for some PRIIPs to be assigned an inappropriately low summary risk indicator in the KID; and

    • address (some) concerns relating to the slippage methodology when calculating transaction costs.

These proposed changes will, we expect, be enthusiastically greeted. That said, PRIIPs has been an emotive topic for a few years now and there will undoubtedly be a broad range of responses and comments. We set out below just a few specific points that asset managers may want to consider in crafting their responses to the consultation paper.

  • Relationship with the EEA PRIIPs Regulation: Manufacturers and distributors (whether in the EEA or UK) which market a PRIIP into both the EEA and UK need to comply with the key information document (“KID”) requirements in both the UK PRIIPs Regulation and the EEA PRIIPs Regulation. Such persons will need to prepare a KID which complies with the FCA’s specific requirements in addition to a KID that conforms to the existing EEA PRIIPs Regulation. It may be that the content of the UK KID diverges significantly from that of the EEA KID (for example in terms of risk rating and expressions of future performance). Manufacturers who need to prepare both forms of KID, and which might, for example, have a risk rating of 3 in one but 6 in the other, will need to consider how to navigate the rule (contained in each of the EEA PRIIPs Regulation and the UK PRIIPs Regulation) that prevents “marketing communications” that relate to the PRIIP from including any contradictory information or information that diminishes the significance of the KID. We would note however that for those EEA funds recognised under the UK’s forthcoming Overseas Funds Regime (which allows designated categories of non-UK funds to be marketed to retail investors in the UK) the current proposals in the consultation paper will not apply, with the FCA instead noting that it will separately consult in due course on the pre-sale disclosure requirements for such non-UK funds marketed under the OFR. In addition EEA UCITS currently also enjoy an exemption from having to prepare a UK PRIIPs KID.

  • When a PRIIP is “made available”: In proposed guidance, the FCA sets out what it considers to be sensible and proportionate conditions that a product would need to satisfy in order for a manufacturer to be able to say that the PRIIP is not “made available” to retail investors (the consequence of which is that no KID would be required). It sets out three conditions, the first two of which (being clear disclosure that the product is not for retail and taking reasonable steps to ensure that the means of distribution are directed at professional investors) seem uncontroversial. The third condition is that “a denomination or minimum investment of £100,000” applies to the product. This third requirement may be an issue for listed investment companies that are not intended for retail investors but which may be made available to retail investors by virtue of trading on the London stock exchange. There are funds traded on the Specialist Fund Segment which only target institutional or professional clients, but which would have a denomination of less than £100,000. It may be helpful for the FCA to confirm that as long as the requirement at IPO was for a minimum subscription of £100,000, the conditions will be satisfied. It would also be helpful for the FCA to make clear that listed investment companies that satisfy the first two conditions, but because their IPO was before the guidance did not have a minimum initial subscription amount of £100,000, would also be considered to be not “made available” to retail investors. This would be consistent with prevailing norms.

  • Performance narrative: The replacement of the current performance scenarios with narrative information on performance is an improvement to the existing framework and will no doubt be welcomed by market participants given the concerns with the existing methodology. While the FCA is currently consulting on whether specific factors should be included in this narrative section, the FCA outlines its view that PRIIPs manufacturers would be required to include “a description of the main factors likely to affect future returns for the investor, identifying those most likely to determine the outcome of the investment and other factors which could have a material impact on performance”. Given that KIDs are limited to three pages in length, PRIIP manufacturers will have to carefully consider how they wish to frame such narratives, particularly to ensure that any risk disclosures are made in a consumer friendly manner. The proposal also would require a disclosure of “the most relevant index, benchmark, target or proxy” and an explanation of how the PRIIP “compare[s] in terms of volatility and performance”. It may be the case that some funds do not set out or measure against any such index, benchmark, target or proxy.

  • Transaction costs: The FCA has confirmed its view that the slippage cost methodology is working as intended and that it does not intend to re-open the discussion of whether slippage is an appropriate measure for the purposes of PRIIPs transaction cost disclosures. The FCA has, however, proposed amendments to the technical standards in order to improve the accuracy of transaction costs reporting in the following areas: (i) treatment of anti-dilution, (ii) calculation of costs of over-the-counter (OTC) transactions in bonds, and (iii) calculation of costs of index tracking funds. While the additional guidance is helpful, the FCA has unfortunately not addressed other transaction cost issues that have resulted in some confusion and concern in industry (e.g., look-through cost reporting on underlying fund and holding structures). This consultation provides an opportunity to highlight to the FCA any ongoing concerns.

  • Summary Risk Indicator (“SRI”) methodology: The FCA has recognised that the methodology for determining a product’s SRI relies heavily on volatility measures. This can lead to misleading SRIs for some types of investment product. As an example, the FCA notes that venture capital trusts (“VCT”) typically have underlying assets that are illiquid and have fewer observable pricing data points (as they are only periodically valued, unlike assets which are frequently priced and traded), and that 70% of VCTs had a SRI score of 3 (medium-low risk). The FCA has therefore proposed to introduce a requirement that PRIIPs manufacturers upgrade a product’s SRI if they consider that the risk rating produced by the methodology is too low for that product (this two-step process of calculating and then, if need be, upgrading, applies to all products). VCTs in particular must be assigned an SRI score no lower than 6. Managers of other listed investment companies the portfolios of which comprise unlisted stock may want comfort that the FCA will not necessarily expect SRIs of 6 for these too. It does not appear that an SRI can be adjusted down.

Timing and implementation

Submissions to the consultation close 30 September 2021. Subject to the feedback to this consultation, the FCA plans to publish its final rules on scope, issue guidance on what it means for a PRIIP to be ‘made available’, and amend the PRIIPs regulatory technical standards before the end of 2021; with the intention that the changes will come into effect on 1 January 2022.