The UK's Financial Conduct Authority has found fund managers have significantly improved their value assessments, but more work is needed on fund pricing and fees.

In its review of processes of assessments of value the FCA said managers have a "better understanding" of the rules compared to last year's review, and found they have "significantly improved" their value assessment processes, reports Investment Week.

More specifically, the 14-firm wide review between November 2022 and March 2023 found that most companies make fewer assumptions within their analyses that they cannot evidence as reasonable, and present higher quality information to their boards and assessment of value committees.

This relates to the regulator's expectations that managers "substantiate any claims they make", it said.

Fee justification

One of the biggest issues the FCA discovered revolved around the ways managers justify fees for their funds. The regulator said most firms put "too much emphasis" on comparable market rates rather than conducting reviews and using "the full range of value assessment considerations".

The FCA found that some firms did not use fund-level profitability information to inform their assessments, despite having "well-developed cost analysis".

Comparable market rates were also still being used to "override" one or more of the value assessment minimum considerations, the FCA said. More specifically, when those considerations showed evidence that a fund's fees may not be justified, managers switched to assessing comparable market rates to justify their current fees.

Furthermore, some companies said they would consider cutting a fund's fees only if they were out of line with their competitors - a stance that the FCA noted is a "misapplication" of some of the value assessments considerations.

The regulator said: "While the rules do not prescribe any weighting of the considerations, we consider that justifying fees solely based on a comparison with peer funds does not amount to meaningful compliance […] nor does it reflect the intent of the rule as a remedy for weak price competition."

For instance, the FCA found some firms did not adjust for differences in service levels when comparing fees, such as comparing funds which do not including platform charges within their figures when competitors' funds do. Another company inflated a competitor's platform charge to reflect its own, more expensive, platform charge before making the comparison.

"We consider these practices make favourable assessment outcomes more likely and undermine the effectiveness of the assessment process," the FCA said.

Independent NEDs

Another area where the regulator found shortcomings was in relation to the role and power independent non-executive directors (iNEDs) have when making value assessments, as well as their ability to challenge the information provided.

The FCA said most iNEDs "did not provide sufficient challenges" or were too involved in the collection and analysis of information to be able to challenge its suitability.

Other iNEDs were found to have accepted the information provided by the boards at face value or failed to review the value assessment methodologies.  

The FCA explained: "There is an important balance for iNEDs. Involvement in the assessment of value process should be sufficient to understand the firm's methodology, but not amount to an involvement that compromises independence.

"A few of the iNEDs we spoke to did not understand their firm's process in areas such as performance and authorised fund manager costs, or evidence an understanding of the objective of the assessment of value process."

Additionally, some authorised fund manager boards told the FCA their firms' fund fees were determined by either more senior committees or boards in their organisations, with the AFM boards only having limited influence on the matter.

This, the regulator emphasised, went against some of the value assessment rules, which set out that AFM boards and their senior management function holders were "solely responsible for completing assessments of value and concluding whether fees are justified".  

Consumer Duty

The watchdog also highlighted that, at the time of its review, the Consumer Duty was not in force and reiterated how it expects managers to comply with the regulation, which is applicable to the "full product lifecycle". Value assessments already comply with parts of the Duty.

Camille Blackburn, director of wholesale buy-side at the FCA, said: "Authorised fund manager boards and senior managers are responsible for ensuring value assessments are carried out properly and any issues found are resolved quickly.

"It is vital that firms make sure they are not solely focused on a fund's profitability over value for money for investors. The Consumer Duty, which is now in place, further supports our expectations in this area." 

Commenting on the review, Jonathan Lipkin, director of policy, strategy and innovation at the Investment Association, said: "Delivering value to investors to help them achieve their long-term goals is at the heart of our industry's purpose. Since their introduction in 2019, assessments of value have become an increasingly important part of this process.

"We therefore welcome today's findings from the FCA that many firms have now fully integrated considerations on assessment of value into their product development and fund governance processes, in line with the Consumer Duty. We note that there are still some areas for improvement and will continue to work with the regulator and our members to ensure investment funds deliver good outcomes for investors."  

 

This article was first published by Investment Week.