UK's Financial Services Authority Consults On Tough New Rules For Split Caps

The FSA yesterday proposed tough new rules for investment companies, including Split Capital Investment Trusts, to increase the information and protection available to investors in such companies. There are three main areas where the FSA believes new safeguards need to be introduced:

The nature and content of warnings about the risks to capital;
A limit on the extent to which investment companies can cross-invest in each other;
Strengthening the independence of the company from its investment manager and improving the information available to (and powers of) investors.

Michael Foot, FSA Managing Director, said: "At the Treasury Select Committee meeting last November we promised to consult on changes to the FSA's rules relating to investment companies, and particularly Split Capital Investment Trusts. Today's Consultation Paper deals with changes to our rules for when investment companies first come to the stock market and for when intermediaries sell their shares on to retail investors. The proposals should ensure clearer warnings about key risks; they propose a limit on one key risk - the extent of cross-holdings - and they underpin the rights of shareholders."

Measures that relate directly to the investment company and its promotion

Investment companies provide investors with an efficient and cost-effective method of building a diversified portfolio. Split Capital Investment Trusts (Splits) have become an important part of the investment company sector.

Recent market conditions have exposed structural weaknesses in the way that Splits have been designed. The FSA is proposing to introduce new safeguards to address these weaknesses, including:

A 10% limit on the amount of an investment company's gross assets that can be invested in the shares of other investment companies whose investment policies allow cross investing;
An explicit requirement to include in a prospectus a detailed description of the key risks to which investment companies are subject;
Enhanced risk warnings provided to consumers through the COB rules to match the improved warnings to be required in the prospectus;
More comprehensive and frequent disclosure to the company's investment portfolio, moving to a monthly rather than annual basis.

The relationship between the investment manager and the company To deal with the perception that the relationship between the directors of investment companies and their investment managers has become too close, we are proposing the following safeguards:

Any director of an investment company who is also a director of another investment company managed by the same investment manager will not be regarded as independent for the purposes of the Listing Rules;
No director or employee of, or professional adviser to, the investment manager of a particular investment company may be appointed to the board of that company and the chairman of the board must be independent;
The decision to appoint an investment manager will continue to be taken by the Board but if the board re-appoints a manager it must explain in the company's Annual Report why this is in the interests of shareholders;
Disclosure of the terms on which an investment manager is appointed in the Annual report, including any payments due on early termination of the agreement;
Any changes to investment policy, at any time, should only be made with prior shareholder approval.

Changes to the Model Code

The CP also proposes extending the Listing Rules' Model Code for Directors Dealings to synthetic instruments such as contracts for difference and spread betting.

Michael Foot, FSA Managing Director, said: "We are also proposing to extend the scope of the Model Code for Directors Dealings. There is no doubt in my mind that while Directors dealing in spreadbets and other synthetic products relating to their company is currently not against the letter of the Model Code, it is certainly in breach of the spirit. Therefore we propose extending the Code to cover such products."

Next steps

The FSA welcomes comments on this CP until 14 April 2003. We will publish a policy statement summarising responses and explaining how we intend to proceed. The new rules, amended as necessary after consultation, will become effective shortly after the publication of the policy statement.

Background

The FSA promised the Treasury Select Committee on 14 November 2002 that we would consult on changes to the Listing and COB rules.
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; the appropriate degree of protection of consumers; and fighting financial crime.
The FSA aims to maintain efficient, orderly and clean financial markets and help retail consumers achieve a fair deal.