On February 8, 2019, the European Supervisory Authorities (ESAs) published a Final Report relating to a joint Consultation Paper (the “Consultation Paper”) they published in November 2018, consulting on possible amendments to the PRIIPs Delegated Regulation referred to below.
The EU Packaged Retail Products and Insurancebased Investment Products Regulation (the “Regulation”) became effective on January 1, 2018. Under the terms of the Regulation, whenever an in-scope product is offered to an EU retail investor (defined as a “retail client” under MiFID II), an additional short form Key Information Document (KID) must be provided to that investor before it makes its investment decision.
The Regulation is prescriptive as to what information the KID should contain and the order in which information should be presented. An EU Delegated Regulation (the “Delegated Regulation”) sets out detailed regulatory technical standards relating to the preparation of the KID and the information to be included in it.
In the lead-up to the Regulation and the Delegated Regulation coming into effect, significant market concern was raised that certain of the required disclosures could be misleading in some circumstances, particularly in respect of performance scenarios and transaction costs. These concerns continued to be raised after January 1, 2018. In the UK, in January 2018, the Financial Conduct Authority (FCA) took the unusual step of publishing a statement on communications in relation to PRIIPs , reminding market participants of the FCA rules requiring firms to ensure that their communications with clients are fair, clear and not misleading. The FCA stated that, where firms are concerned, the “performance scenario” information may appear too optimistic with the potential to mislead customers, it was recommended that additional explanations should be included to put the calculation in context (even though such an approach is not contemplated under the Regulation).
2018 CONSULTATION PAPER
As mentioned above, following market concerns about aspects of the Delegated Regulation, the ESAs published the Consultation Paper in November 2018 which sought feedback on a number of areas of possible amendment to the Delegated Regulation.
In terms of timing, the ESAs were concerned, in particular, that, with effect from December 31, 2019, management and investment companies advising on or selling UCITS funds would need to comply with the KID requirements under the Regulation – until that date when they are able to rely upon an exemption permitting them to continue to produce an information document in accordance with the existing UCITS Directive. The ESAs are determined that any amendments to the Delegated Regulation must be in place by the time such exemption comes. They therefore proposed a relatively short consultation period and envisaged proposing amendments to the Delegated Regulation in January 2019.
However, since the publication of the Consultation Paper, the European Parliament Committee on Economic and Monetary Affairs (ECON) has proposed extending the end of the UCITS exemption referred to above for two years until December 31, 2021. It seems likely that the relevant ESAs will ratify and adopt the necessary legislation giving effect to such extension in the first quarter of 2019.
In regard to this anticipated extension and the feedback received in relation to the Consultation Paper, the ESAs state in the Final Report that they have concluded it is not appropriate to propose substantive amendments to the Delegated Regulation at this time. They will, however, conduct a full review of the Delegated Regulation during 2019.
To address some of the more immediate concerns in relation to performance scenarios, the Final Report contains the text of a Joint Supervisory Statement from the ESAs (the “Statement”). In the Statement, the ESAs admit that the performance scenario requirements could, in some cases, provide an overly positive outlook for potential future returns. The ESAs state that, in view of the potential risk that the performance scenarios may provide retail investors with inappropriate expectations about the possible returns they may receive, it is recommended that a statement be included in the KID warning of the limitations to the information in the performance scenarios. For a consistency in approach, it is recommended that an additional warning be added in the “Performance Scenarios” section stating in bolded text that:
Market developments in the future cannot be accurately predicted. The scenarios shown are only an indication of some of the possible outcomes based on recent returns. Actual returns could be lower.
The ESAs state that other relevant information could also include additional explanations putting the performance scenario figures in the KID in context. They stress that any steps taken should be proportionate and should provide information that is complementary to the existing information within the KID, and that any additions to the KID should be limited to what is considered essential to ensure that the presentation of performance scenarios is fair, accurate, clear and not misleading.
The ESAs’ approach is therefore similar to that taken by the UK FCA in 2018 as outlined above.
FUTURE WORK BY THE ESAS
In relation to the proposed review of the Delegated Regulation during 2019, the ESAs state their intention to work with the EU Commission to test both the existing KID approaches and new proposals on consumers. The ESAs expect to publish a further public consultation during 2019 and indicate that the scope of this consultation is likely to be wider than the scope of the 2018 Consultation Paper. Specific areas highlighted by the ESAs as likely to be covered by the 2019 consultation include:
• Performance scenarios: both the issues highlighted in the 2018 Consultation Paper and a more detailed assessment of the methodology underpinning future performance scenarios and their presentation, including intermediate performance scenarios;
• Costs: both in relation to feedback provided to the 2018 Consultation Paper, as well as other information gathered by the ESAs following the implementation of the KID and the interaction of the requirements in relation to costs with other legislation, in particular MiFID II;
• PRIIPs offering a range of options for investment: the ESAs note that their experience since the Regulation came into effect is that there are challenges for retail investors to understand the interaction between the “generic KID” and the “specific information” for the underlying investment option, and to make comparisons between different multi-option products, particularly in relation to costs; and
• Differentiation between different types of PRIIPs: the ESAs intend to analyze if it is appropriate to introduce some additional guidance on how the rules apply to different types of products, while still adhering to the overarching aim of comparability between substitutable products.
Although the market will welcome KIDs that contain appropriate warnings and explanations as to the limitations of performance scenarios in certain circumstances, there is likely to be frustration that it has taken the ESAs this long to propose a solution to an issue highlighted prior to the Delegated Regulation coming into effect and which the UK FCA took action to address over a year ago.
In addition, although some market participants may also be frustrated that the resolution of the 2018 consultation they participated in has been further delayed, many are likely to welcome a more comprehensive consultation that will have the benefit of the Regulation having been in force for over a year. Although market participants have expressed disappointment in the past that the ESAs have not given proper consideration to the issues that were raised, there will be some hope that meaningful improvements can be made to the Delegated Regulation during the extended and revamped consultation.