Inside view: What does the FCA mean by ‘fund value’?

The Financial Conduct Authority’s incoming new rules for asset management will require funds to prove their ‘value’. Devin McCune of Broadridge considers what the UK regulator is expecting firms to do.

Asset management companies in the UK are bracing themselves for new regulatory oversight as a result of the financial regulator’s ‘Asset management market study and ensuing rules’. One of the most significant is the implementation of the ‘Assessment of Value’ rule which mandates firms assess value for each fund and that all fund boards must include at least two new independent non-executive directors (‘i-Neds’).

The Financial Conduct Authority (FCA) intends to provide greater scrutiny of funds’ costs and performance while also adding an independent voice to the process to ensure that investor interests are being looked after.

However, these measures inevitably create questions about what ‘value’ means and how it is measured.

Seven criteria – which are largely based on the US 15(c) requirements – have been outlined that need to be reviewed annually. These are:

  • Range and quality of service;
  • Performance net of charges;
  • Cost of providing services; 
  • Comparable rates for other products;
  • Comparable market rates; 
  • Class expense differences; and
  • Economies of scale.

Meaningful dialogue
The responsibility for measuring value falls on both executive directors and i-Neds. Intrinsically, these two groups will enter the discussion from different angles, providing for meaningful dialogue and discourse related to each fund. As part of this process, both groups will need to have a very detailed and holistic understanding of the funds they oversee. This understanding should include knowledge of a fund’s investment objectives and the strategy the fund will use to achieve these objectives.

There is also a need to gain an understanding of how the fund is positioned and marketed to investors, and a general understanding of the market for each fund.

While the process for measuring and evaluating the value will vary by management company, there are some consistent factors and best practices. Any evaluation of a fund will include quantitative analysis and qualitative analysis. The weighting of these measures will change by management company, likely even by fund within each management company, and over time as each fund company evolves.

The consistent quantitative factors used to evaluate value include expense comparisons, total return comparisons, and risk measure analysis. On the qualitative side, management companies and i-Neds will utilise data gathered from the quantitative analysis to establish questions and answers that truly help understand each fund.

Looking at relative rankings for a fund may lead to a conclusion that a fund is not providing value because it has high relative expenses and low relative performance; however, a different conclusion may be drawn when considering additional factors. For example, a fund with a mandate to provide low relative risk and volatility for investors may be more expensive to run and will likely underperform in bull markets; however, if those features are what the investor wants, then the fund is in fact ‘providing value’.

Simply looking at broad investment classification comparisons and rankings will not provide the full metrics to evaluate the true value a fund is providing. Creating a refined set of comparison groups, looking at those funds with the most similar investment strategy, can help with ensuring the quantitative data is meaningful. Every evaluation will also require a dialogue between the board and the asset manager to make sure the fund is being managed in line with the stated objective.

Now publish it…
The final element to the rule is that the management company must publish in its annual shareholder report how each fund is providing value – including if any actions are being taken, so that the fund can provide more value. While the internal process of reviewing and measuring a fund will have a significant impact on the management company and the new i-Neds, the full benefit to investors will be unknown until shareholders have the opportunity to understand why and how funds are providing value.

Through greater transparency and additional data highlighting how funds and management companies are providing value based on the seven criteria, investors may indeed see changes in how funds are managed in the future – with the emphasis on helping the investor better advocate and invest in their best interests.

Devin McCune is vice president, governance, risk and compliance at Broadridge

©2019 funds europe



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