Author: Furio Pietribiasi
On 24th of May 2023, as part of the Capital Markets Union Action Plan, the European Commission (EC) unveiled their proposals for the EU Retail Investment Strategy. These proposals are designed to enhance protections for investors as the Commission hopes to increase retail investor participation in capital markets.
A key element that has taken centre stage within the Retail Investment Strategy (RIS) is the value for money (VFM) concept, which is designed to empower retail investors by limiting the offering of financial products that bear poor, or no, value for money to ensure that investment decisions are fully aligned with investors’ needs and preferences. At Mediolanum, we are fully supportive of value for money for clients.
Overemphasis on price: neglecting other key factors
However, despite its worthy intentions, we believe the current state of the proposals has a disproportionate focus on cost. By only focusing on the price of a product, retail investors are more likely to prioritise the “cheapest” products over others, even if they offer better overall value, especially when you consider the individuals’ long-term financial needs and goals. Such an outcome could end up being, in our view, detrimental to the client’s best interest. A middle ground is needed to ensure the regulatory framework allows for retail investors to truly achieve value for money.
Within the VFM framework, the Commission has also introduced the concept of value benchmarks, specifically stating that the European Securities and Markets Authority (ESMA) construct cost benchmarks against which approximately 30,000 UCITS funds would have to be evaluated. Firms would be required to make a comparison of the cost and performance of a product against those benchmarks. Any deviation from the relevant benchmark would introduce a presumption that costs and charges are too high and require a manager to suspend new subscriptions until they have justified the cost deviation.
In my opinion, cost should be just one element of any assessment of value, which should also encompass other factors including investment performance, diversification, the financial goals of the retail investor, and the level and quality of services provided to the investor. I believe that VFM would be better captured through being grouped into three categories: costs and charges, clients’ outcome – defined as risk and return with a focus on the long-term – and quality of service, which refers to features and benefits desired by investors, and which may include things such as the quality of governance or sustainability of investment approaches.
The introduction of one-size-fits-all VFM benchmarks goes against the core goal of the investment process: to offer tailored solutions to different clients’ needs. Trying to find ‘a single solution’ that fits every business model and distribution channel raises more complications and will only make it difficult for businesses to offer retail investors the best product.
The benefits of a holistic investor-centric approach
One effective approach to shift the focus towards being more investor-centric rather than overly cost-centric in the context of VFM would be to tailor the VFM assessment differently based on the execution channel. This would involve considering the specific roles and responsibilities of the various entities involved in the investment decision or recommendation to the clients when assessing VFM.
In this context, I believe it would make more sense for the onus of evaluating whether a financial product and service truly delivers value for money for retail investors to be on the financial intermediary platform, bank, and/or financial advisory network that ultimately sell these products to the clients. This is because these intermediaries have direct contact and engagement with the end investors and are better positioned to assess the overall suitability and relevance of the financial products and services being offered.
This would ensure that the entities closest to the end-client’s individual circumstances, risk tolerances, and investment preferences are actively engaged in assessing and advocating for products that genuinely align with the investors' needs and financial objectives. Such an approach would also promote a healthy competitive investment environment where the focus goes beyond compliance to one that is genuinely geared towards optimising the investment outcomes for the end investors.
The impact of VFM on the sub-advisory model
If the VFM concept in the RIS goes through as it currently stands, I personally believe there will need to be significant operational adjustments necessary to comply with proposed legislative requirements. The intense focus on costs will most likely increase the wave of consolidation we are already seeing in the asset management industry.
VFM is also likely to bring about a transformative change on the asset management distribution space, as the emphasis shifts to cheaper solutions. In this context, the sub-advisory business model will become even more important. To retain margin, more intermediaries and distributors will look to have their own products sub-advised to specialised external asset managers. Intermediaries and distributors can use the sub-advisory model to support margins in the medium-term, while also having more flexibility over product innovation.
In conclusion, while the objectives outlined in the RIS when it comes to VFM are to be lauded and we fully support transparency when it comes to costs and fees, the meaning of ‘value’ is incredibly nuanced in nature and can mean different things to different people. While the sub-advisory model stands to benefit from a heightened emphasis on fees, we feel that it is important that EU policymakers further consider the potential implications of mandated benchmarks and ensure that these are implemented in a fair, balanced, and proportionate way that ultimately improves the experiences and choices for retail investors.
Furio Pietribiasi is CEO, Mediolanum International Funds