On May 24, 2023, the European Commission unveiled a comprehensive proposal known as the Retail Investment Strategy (RIS). This effort represents a big step towards changing the situation for retail investors in the European Union.
Despite its name, the RIS Directive functions as an omnibus strategy, aiming at amending several existing legislations to improve retail investor engagement in capital markets—a participation rate lagging behind other global regions.
The primary aim of the RIS is to encourage a more inclusive and accessible capital market environment for retail investors across the EU.
The approach aims to increase retail investors' total involvement in these markets by removing significant barriers and boosting investor trust, resulting in a more dynamic and strong financial environment.
#1 Aligning with "An Economy That Works for People"
The RIS Directive aligns with the broader objective of creating "an economy that works for people." This entails creating an efficient, equitable, and inclusive financial system that guarantees that all citizens may participate in and profit from economic growth and development.
#2 Empowering Consumers with a Robust Legal Framework
A core component of the RIS Directive is the empowerment of consumers through a strong and supportive legal framework. This framework is designed to provide clear, comparable, and easily understandable information about investment products. It helps consumers make informed decisions and reduces the risk of being misled by unrealistic marketing.
#3 Ensuring Fairer Market Outcomes and Increased Retail Investor Participation
The RIS Directive strives to achieve more equitable market results by removing conflicts of interest and ensuring that investment products provide actual value for money.
Finally, these initiatives are projected to improve retail investors' engagement in EU capital markets, thus achieving the strategy's goal of a more involved and financially empowered population.
#1 Access to Investment Product Information and Influence of Unrealistic Marketing
Investors often face challenges in obtaining clear, comparable, and understandable information, which is essential for making informed decisions. The RIS Directive aims to address this issue by enhancing transparency and ensuring that investment details are presented in a clear and accessible manner.
In addition to this, the directive tackles the risk of investors being inappropriately influenced by misleading marketing. Unrealistic claims and overly optimistic portrayals of investment products can result in poor decision-making.
To mitigate this, the RIS Directive sets stricter guidelines for marketing communications, ensuring that they are accurate and not misleading, further safeguarding investors from inappropriate influence.
#2 Conflicts of Interest from Inducements
#3 High Investment Product Cost
Costs Often Do Not Offer Value for Money
High costs associated with investment products are another critical issue that the RIS Directive aims to address
Often, these costs do not provide good value for money, which can erode the returns for retail investors
By focusing on cost-effectiveness and ensuring that investment products offer fair value, the RIS Directive strives to create a more equitable financial market where investors can achieve better outcomes.
The RIS integrates with existing regulatory frameworks through targeted amendments to major legislations to improve investor protection, ensure transparency, and promote financial literacy.
Here are the key amendments mentioned in the proposal:
#1 MiFID II – Investment Services Provision
The RIS amends the Markets in Financial Instruments Directive (MiFID II) by:
Update disclosure rules to align with the digital era and investor’s sustainability preferences
Establish benchmark to evaluate the value of financial products
Ensure marketing is fair, clear, and accurate, including via digital platforms and fiinfluencers.
Enhance financial literacy among both advisors and retail investors.
Foster stronger collaboration between national and European supervisory authorities.
Disclosure practices: Consolidating and standardising disclosure practices, including introducing warnings for risky financial instruments.
#2 IDD – Insurance Distribution Services
Amendments to the Insurance Distribution Directive (IDD) under the RIS focus on:
Advisory Standards: Improving the competence requirements for insurance advisers through continuous professional development.
Transparency and Conflict of Interest: Improving disclosure standards and addressing potential conflicts of interest to make sure that insurance advice is in the best interest of retail clients.
#3 Solvency II – Insurance Business within the EU
The RIS impacts the Solvency II Directive by:
Value for Money: Requiring insurance products to undergo a value for money assessment, comparing costs and benefits with relevant benchmarks
Enhanced Supervision: Granting supervisory authorities additional powers to oversee the implementation of these standards and take action against non-compliant practices.
#4 UCITS – Collective Investment in Transferable Securities
Modifications to the Undertakings for Collective Investment in Transferable Securities (UCITS) Directive include:
Modernised Disclosure: Standardising disclosure formats and making sure that information about collective investment schemes is clear, concise, and accessible, especially in digital formats.
Product Governance: Making sure that UCITS products meet the updated value for money criteria and that they are marketed transparently and fairly.
#5 AIFMD – Alternative Investment Fund Managers Directive
The AIFMD is amended to:
Enhanced Product Oversight: Improving the governance of alternative investment products to make sure they provide value for money and are suitable for retail investors.
Disclosure and Marketing Rules: Aligning disclosure and marketing strategies with new requirements to avoid misleading information and improve investor protection.
These reforms aim to create a cohesive and investor-friendly regulatory environment, increase retail investor involvement in EU capital markets, and unify various legislative frameworks to safeguard and empower investors.
#1 Strengthening Product Governance and Pricing Legislation
Identifying and Quantifying All Costs and Charges
The RIS Directive aims to strengthen product governance and the pricing process by requiring product manufacturers and distributors to identify and quantify all associated costs and charges, ensuring transparency and enabling investors to clearly understand what they are paying for.
Assessing if Costs Undermine Product Value
Furthermore, the RIS Directive requires assessing whether these costs and charges will reduce the value the investment product is expected to give.
This examination guarantees that investors get good value for their money and that their investments are cost-effective and beneficial
#2 Impact of Cost Benchmarks on Product Governance and Business Practices
The European Securities and Markets Authority (ESMA) and the European Insurance and Occupational Pensions Authority (EIOPA) will introduce cost benchmarks for various funds and investment strategies, requiring manufacturers and distributors to incorporate these benchmarks into their pricing processes
They must compare their costs and charges against the benchmarks to ensure they are reasonable and justified.
However, these benchmarks may function as de facto cost caps, potentially impacting business practices, product design, talent attraction, and innovation.
While the RIS Directive aims to enhance value for money, it also presents challenges for manufacturers and distributors in balancing cost-effectiveness with business growth and innovation.
#1 Rationalisation of Fund Ranges
Increased Transparency Leading to Competitive Rationalisation
The RIS Directive aims to enhance transparency in the costs associated with investment products.
This increased transparency will likely lead to rationalising fund ranges at the manufacturer level.
Fund manufacturers must streamline their offerings to stay competitive, focusing on providing clear and comparable cost information.
This rationalisation process will help them align with the RIS’s requirements and maintain their market position against direct investment options like shares and bonds.
#2 Shift in Investment Strategies
Trend Towards Passive Investments
The RIS Directive may reinforce the ongoing trend towards passive investment strategies.
As cost benchmarks are established, actively managed funds might face increased pressure to justify higher costs.
This could make passive investments, which generally have lower costs, more attractive to investors seeking better value for money.
#3 Impact on Democratisation of Private Markets
If private asset managers are required to charge lower fees to comply with the regulation, they might lose interest in attracting retail investor money.
This could reduce the variety of investment options available to retail clients, limiting their access to private markets and potentially hindering the democratisation process.
#4 Concerns About Management Costs and Liquidity for Retail AIFs
The RIS Directive raises concerns about the management costs and liquidity requirements for retail Alternative Investment Funds (AIFs).
ESMA has highlighted that the cost eligibility test should consider the type of fund, as certain costs may be acceptable for AIFs but not for UCITS.
Policymakers and supervisors need to factor in the specific management costs associated with maintaining liquidity for retail AIFs when designing benchmarks.
This consideration is crucial to ensure that the RIS Directive does not inadvertently disadvantage these funds and their investors.
#1 Diversification as Part of the Suitability Test
Distributors to Obtain Comprehensive Client Information
Under the RIS Regulation, the suitability test will now include the need for portfolio diversification.
Distributors are advised to gather comprehensive information from their clients about their entire investment holdings.
This added suggestion ensures that the advice given aligns with the clients' overall investment strategy and diversification needs.
However, this also burdens distributors, as they must collect and analyse extensive client data to meet the new standards set by the RIS Directive.
#2 Suitability-Light Regime for Independent Advisors
Requirements for Recommending Diversified, Non-Complex, Cost-Efficient Products
The RIS Directive introduces a suitability-light regime specifically for independent advisors.
These advisors, who offer a diverse, non-complex, and cost-effective product mix, are not required to collect specific information regarding the client's expertise, experience, or total portfolio diversity.
This lighter approach attempts to make it easier to offer simple and affordable investment products while emphasising the cost disparities between independent and non-independent counsel.
The RIS Regulation reduces the regulatory burden on independent advisors, encouraging the provision of cost-effective and accessible investment advice to retail clients.
#1 Adapting Revenue Models
Tailoring Advisory Pricing Based on Client Segments
Under the RIS Directive, distributors must adapt their revenue models to better align with different client segments.
This involves tailoring advisory pricing to match the willingness to pay of various clients.
By customising fee structures, distributors can more effectively meet the various needs of their clientele and enhance their competitive edge.
Leveraging Discretionary Mandates for New Revenue Streams
Distributors can offer discretionary investment management services to additional client segments, managing investments on their behalf within pre-agreed guidelines.
This approach diversifies revenue sources and adds value to clients seeking managed investment solutions.
#2 Service Model Innovation
Investing in Valued Services to Justify Advisory Fees
The RIS Directive encourages distributors to invest in services that clients highly value to justify the fees associated with financial advisory services.
By focusing on areas that enhance client satisfaction and loyalty, distributors can ensure that their advisory fees are seen as worthwhile.
Utilising Digital Tools and Client Education
Digital tools and client education are important components of service model innovation under the RIS Directive.
Distributors can improve service delivery by integrating advanced digital platforms, making it more efficient and user-friendly.
Additionally, providing direct client education helps clients understand and appreciate the value of the services offered, fostering trust and long-term relationships.
#3 Distribution Model Adaptation
Balancing Between Mutual Funds and ETFs
Adapting the distribution model to balance the offerings of mutual funds and ETFs is essential under the RIS Directive.
ETFs, in particular, can be used as fundamental elements in constructing factor-based investment strategies.
By finding the right mix of mutual funds and ETFs, distributors can cater to a broader range of investment preferences and objectives, enhancing their appeal to diverse client segments.
Innovating Distribution Models to Improve Margins and Target New Segments
This involves streamlining distribution processes and adopting new technologies to reduce costs and increase efficiency.
By innovating their distribution approach, distributors can better serve existing clients and attract new ones, thereby expanding their market reach.
#4 Managing Inducements
Justifying Value-Added Services for Inducements
This means creating and demonstrating services that provide significant benefits to clients, thereby validating the additional costs associated with these inducements.
Increased scrutiny over inducement justification requires distributors to be transparent and accountable in how they enhance the client experience through these services.
Training Relationship Managers and Educating Clients on Service Value
Effective inducement management under the RIS Directive also involves investing in the training of relationship managers and educating clients about the value of the services provided.
Relationship managers need to be well-versed in the new regulatory environment and equipped to communicate the services' benefits to clients.
By educating clients on the value-added aspects of their services, distributors can build trust and ensure clients understand and appreciate the enhancements brought by inducements.
The new Retail Investment Strategy (RIS) appears to bring both challenges and opportunities for asset managers and distributors. The RIS Regulation aims to make investing more transparent and fairer, helping everyday investors feel more confident.
To adapt, asset managers and distributors may need to adjust their pricing to fit different clients and explore new revenue streams. Furthermore, investing in services that clients value and use digital tools to improve service and education.
Despite the changes, the RIS Regulation has the potential to help create a more trusted and efficient market. By embracing these updates, asset managers and distributors can serve their clients better and build a stronger investment environment.
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