Don't get me wrong.......

I’m an enthusiastic supporter of financial services industry regulation. Having been through the introduction of such legislation in three different countries now, you could say that I’m getting accustomed to the events! R&REach country has its own particular style of regulation as judged by the regulators to relate to their particular circumstances, history, and specific experiences.

In the U.K. and Australia, the regulators biggest fear was to be regarded as ineffective by either the financial services industry they were established to monitor, or by the politicians and consumers they were appointed to serve. In both these countries, miscreants could – and still can – expect little tolerance for errant behaviour.

In New Zealand, however, there appears to be acceptance of regulatory breaches.

There have been two Kiwisaver providers which have been caught ignoring the regulations – no names, no warning to investors, nothing but the proverbial slap over the wrist with a wet cigarette paper. The behaviour of the five Discretionary Investment Management Services (DIMS) firms in disregarding regulatory requirements again resulted in a cloak of anonymity being thrown over the perpetrators.

Yes – you read correctly, there 5 such firms deemed to be in breach – with no hint to the investors who might like to know if their money is destined to go the same way as their unfortunate counterparts at Ross Asset Management.

The publication of the statistical activity of the FMA is impressive – but the lack of any names attaching to those found to be in contravention of the regulatory regime is disappointing, and in my view renders the regulator largely ineffective in implementing the provisions of a diligent regulatory environment.

Granted the intention is not to inhibit business or to stifle competition, or to protect fools being parted from their money, but to have so many breaches of a principles-based regime given name suppression is an early sign of creeping capture theory is emerging.

Somewhere along the line, agreement has been reached among participants that the degree of breach should be considered and accorded more or less sanction according to subjective evaluation.

This is an indication that the regulations are perhaps being unduly influenced by those being regulated – capture theory as promulgated and established in the early years of the British regulatory regime.

There also seems to be some aspect of forgiveness if the perpetrator self-reports, and that this confession of wrong-doing is taken into account when evaluating the severity of censure, if any.

In Australia, failure to report a breach is a breach in itself, as ‘fessing up to errant behaviour is mandated by the legislation. So why is there apparent mitigation afforded in NZ which only serves to render the regime less effective than it otherwise should be?

Of course, it’s impossible to avoid the suggestion that these entities granted name suppression are somehow at the big end of town, and that influence is being exerted to avoid any commercial prejudice. There’s no evidence to support that so far – largely due to the lack of information in the first place – but if any does emerge, the existence of capture theory will be given more credence.

Contrast this with the experience of the Advisers who are being called to account to the FMA for their allegedly (at this stage) errant behaviour. Isn’t the basis of our legal system that anyone is innocent until proven guilty? So why would the regulator take a different view?

These advisers may well be found to have been in breach of the regulations (and Mr. Ross is one of them, to be fair) but their names have been published while the Kiwisaver product providers have been granted anonymity.

Perhaps a more consistent treatment would raise the credibility of the regulatory body and inspire more confidence from the industry and the consumers. It is interesting to note that the correspondence from the industry on Sean Hughes announcing his departure was broadly supportive of his contribution, while the public – at least those reading the NBR - expressed a far less charitable view.

The FMA has been given a fairly easy ride so far by its masters with the Minister rejecting any notion that the rules and regulations should be reviewed. I believe this is the time to review the fundamentals of the regime and to establish the effectiveness of the rules governing the FMAs ability to prosecute its brief effectively. Advisers who are practising properly will have had no problem meeting compliance standards, most of which represent good business practice anyway.

For my money, this regime is based on a fundamentally errant premise – that adviser status should be defined by the products deployed. The underlying assumption – equally flawed – is that investment products are more complex than risk products, therefore investment advisers should be subject to an additional set of regulatory behaviours.

There are two specific areas drastically in need of review and reform in my view.

  1. Adviser businesses should have some test of financial fitness attaching relative to the financial responsibility devolved to them by clients. Those firms seeking discretionary investment powers should be able to show audited solvency and liquidity margins which minimise the impact to the client of the advisory firm going bust. That’s not to eliminate investment risk from the equation – only to provide investor protection against commercially incompetent advisers.
  2. Product complexity as a demarcation concept should be dropped and all advisers subject to minimum qualifications in their chosen fields of practice. There needs to be some generalist fundamental knowledge standards and relevant subject matter present in the basic qualifications, with specialist knowledge required to manage more complex client circumstances – advisers should not have their status based on product classes.

There is a further area of concern but it’s too knotty to embrace here, but here goes with a basic outline.

In the U.K., and in a number of other jurisdictions, there is an entity called the Financial Services Compensation Scheme administered by the Policyholders Protection Board. In the event that an insurance company is declared insolvent, the Act provides for cover to be continued, and creates remedy for the consumer.

NZ legislation is aimed at punishment – with no apparent restitution for the consumer.

As I said – too big a topic for this post, but might be something to think about for the future?