Julie Patterson, head of investment management regulatory change at KPMG, believes this is a big risk because each of the EU’s 28 member states is likely to implement its own slightly different version of the revised Markets in Financial Instruments Directive, or Mifid II.
“The European single market as a whole will be more fragmented as a result of Mifid II,” Patterson told PA‘s sister title International Adviser.
Patterson was speaking after addressing an audience of institutional fund buyers and wealth managers at the Association of the Luxembourg Fund Industry (ALFI) Global Distribution Conference 2017 in Luxembourg.
Mifid II, which comes into force on 3 January 2018, has more than 1.4 million paragraphs of rules and is intended to be the centrepiece of the EU’s efforts to create a single financial market designed to offer greater protection to investors and ensure high transparency standards are met by both product providers and financial intermediaries.
It requires big adjustments for the firms affected in terms of product governance, transaction reporting and applying new rules around research and communications, including a requirement to notify clients when the value of a portfolio falls more than 10%.
Patterson warned there was a strong risk that there will be various views at the international level among both regulators and industry players, as they grapple with understanding what exactly they have to change and improve in order to adhere to the new rules.
“Mifid II is so big, and there are so many different rules that need to be clarified, that in order to get it done in time, a lot of national regulators will have to interpret them with their own cultural background and their own understanding of the way the industry works in that particular state.
“It’s absolutely clear that we will get significant differences,” she said.
As with any new rules, there is a period where the laws need to be implemented, and in that period the industry will be critically dependent on what the different national regulators are saying that they have to do, Patterson argued.
“Because of that, the big distributors, the big banks distributing thousands of products – not just funds, but also insurance and structured products – won’t be able to cope with the amount of information they need for the different products, at least for a while. That’s why we’ll see a high degree of fragmentation.”
Impact on distribution
Open architecture – the option offered by an investment firm to let its clients invest not just in that firm’s financial products, but also in competing firms’ products – may somewhat be squashed by responses to Mifid II demands, Patterson suggested.
“If they are selling their own products, then it’s easier to provide the information required under Mifid II. So, we will see two things: the big distributors distributing fewer products, while at the same time tending to go back a bit more to their own group products, simply because of ease of access of information.
“You could see that as a backward step,” Patterson conceded.
“In terms of the pan-European market, that’s not good for open architecture, not good for competition, and it also means consumers have less choice.”
“As a result of this challenging landscape, tomorrow’s distributor will be very different from today’s,” Patterson emphasised.
“The big change for tomorrow’s product proposition will be that the number of products will be shrinking” and, in order to make it financially viable for both distributors and intermediaries, including IFAs, “the minimum portfolio size is set to increase”.
In terms of making IFA’s jobs more complicated when dealing with expats, Patterson said, the real turning point is Brexit rather than Mifid II.
“With expats we are talking about wealthier investors, generally speaking, but most of them are still retail, not professional investors. So, the whole question of what you can and cannot do cross-border matters. Within the EU we’re fine, as Mifid II doesn’t particularly change that in terms of rules and does not appear to restrict third countries.”
Brexit, however, is not only a massive political issue for the UK-EU border, but it’s also changing the balance of the political debate about third countries in general, and cross-border business in and out of the EU.
“I wouldn’t say I’m pessimistic, but in the wealth management space, I suspect there will be increasing friction in terms of how easy it is for IFAs to service expats, depending exactly on which member state the firm is based in, and where the expat is domiciled.”
Patterson anticipates more paperwork and, in turn, higher costs and stressful times ahead for both IFAs and their clients.
“It’s not necessarily that IFAs won’t be able to do it, but there could be more requirements, coupled with a general political feel of the regulators not being so happy in this space.
“The politics of Brexit shine more intense heat on bits of regulation and tax that were already there, but that the industry was managing to deal with,” the expert said.
“Tax is always an issue, but if you overlay a more difficult political and, in turn, regulatory environment in which we still don’t know what the EU-UK agreement will be, then the tax issue becomes more highlighted.
“Either we’ve got UK wealth managers dealing with EU 27 residents, or EU 27 wealth managers dealing with UK residents.
“We don’t know what’s going to happen to that border, and that uncertainty in itself can create friction in the sense that it can cause businesses to say: ‘without this we would have been seeking to expand or talk to more clients, but we might just need to hold off and wait a bit’,” Patterson said.