The proposed rules confirm the FSA's position that fund managers' use of commission should be limited to the purchase of 'execution' and 'research' services (as set out in ‘PS04/23 on Bundled Brokerage and soft commission arrangements: Update on issues arising from PS04/13’ published in November 2004). The consultation paper (CP05/5) also includes details of the work done by the fund management and broker sectors, with the involvement of pension fund trustees, in developing measures to enhance transparency and accountability in soft commission and bundled brokerage arrangements.
Hector Sants, Managing Director of the FSA's Wholesale Business Unit, said:
"The rules, combined with the industry-led proposals to deliver additional disclosure, address the issues of transparency and accountability raised by soft commissions and bundled brokerage arrangements. This should make the market for execution and broker services more efficient and sharpen incentives to provide better value for money to investors.
"We particularly welcome the proposals developed by IMA, LIBA and NAPF which will enable clients to understand better what they are paying for execution and research. This is an excellent example of the wholesale market working in partnership with the FSA to address issues that affect firms and investors."
Proposed Approach
The proposed high-level rules, together with the industry proposals, will:
- limit investment managers’ use of dealing commission to the purchase of ‘execution’ and ‘research’ services;
- require investment managers to disclose to their customers details of how these commission payments have been spent and what services have been acquired with them;
- embed incentives to secure value for clients for execution and research spend in the commercial relationship between investment managers and brokers; and
- promote a more level playing field in the production of research, whether within investment banks or by third parties.
The paper sets out the services the FSA considers as legitimately falling
within the definition of execution and research, which can therefore be paid
for from commission under the new regime, and what it views as being non-permitted
services. The FSA is proposing that non-permitted services include, amongst
other things, computer hardware, seminar fees and travel or entertainment
costs.
The FSA does not propose to state whether particular market pricing and information
services are permitted or not but has set guidelines against which all services
should be evaluated. The FSA will expect investment managers to apply these
principles to determine whether particular goods and services they propose
to acquire with commission are permitted services. They must be able to justify
this decision to their clients and the FSA if asked.
Industry Measures
The FSA is satisfied that the industry's proposals are a credible way of addressing
the lack of transparency and accountability that the FSA identified.
The proposals developed by the IMA, in conjunction with LIBA and NAPF, include:
- descriptions of investment managers' policies, processes and procedures in the management of trading commissions paid on behalf of clients;
- client specific information on how commissions paid have been generated and how they have been used, including a split between amounts of commission spent on execution on the one hand and research on the other;
- reports will be issued by fund managers to UK pension funds from Q1 2006 and to other UK funds from Q3 2006; and
- the encouragement of forward-looking discussions between brokers and fund managers on how commission should be split between research and execution.
The FSA's consultation will close on 31 May with final rules being made in July 2005.
Background
1. Bundling refers to the provision by brokers of other in-house services, such as research, together with dealing in securities in a single commission charge. Softing is the practice by which a broker agrees to pay for the supply of services from a third party to a fund manager in return for an agreed volume of business at an agreed commission rate. In both cases, the value of the services provided is dependent on how much business the fund manager places with the broker. The costs for these services are included in the commissions which are passed through by fund managers directly as charges to their clients.
2. The FSA published CP 176: Bundled Brokerage and Soft Commissions in April 2003, its Policy Statement 04/13 Feedback on CP176 in May 2004 and in November 2004 issued a Policy Statement 04/23 Update on issues arising from PS04/13.
3. In March 2004 the FSA challenged the industry to develop a solution to secure improved management of conflicts of interest through increased transparency and accountability to clients and better payment and pricing mechanisms for both execution and research services. The IMA, in conjunction with LIBA and NAPF, has developed a set of proposals to deliver these outcomes. The IMA disclosure code can be found here IMA Disclosure Code. The LIBA statement of good practice can be found here LIBA Statement of Good Practice.
4. The FSA regulates the financial services industry and has four objectives under the Financial Services and Markets Act 2000: maintaining market confidence; promoting public understanding of the financial system; securing the appropriate degree of protection for consumers; and fighting financial crime.
5. The FSA aims to maintain efficient, orderly and clean financial markets and help retail consumers achieve a fair deal.
Click here to download the FSA's "Bundled brokerage and soft commission arrangements: proposed rules".
