The FCA has published a consultation that proposes to reform its financial promotion rules. The changes relate to "high-risk investments", assets and products that are subject to restrictions under the FCA’s marketing rules.
The proposals are significant for three primary reasons.
- The rules target areas of financial innovation, such as cryptoassets and crowdfunding platforms, and will be important for the creation and sales of those instruments.
- There are implications for the regulatory perimeter; that is, the firms and activities that fall under FCA regulation and, with it, are subject to protections such as FSCS insurance against wrongdoing.
- The rules concern sales and the provision of advice to ordinary investors. Increasing numbers of retail investors are interested in more esoteric investments, such as private assets. More individuals in the UK are invested in crypto currencies than in listed shares. There are "real-world" effects to this consultation.
A significant amount of the marketing of high-risk investments happens online; often, on social media. There is a sense among regulators, particularly after the GameStop episode, that there is a "Wild West" in retail investment and a need to impose official-backed order. Although the FCA hopes that its reforms might also spur innovation by regularising some of these activities and giving ordinary investors some assurance about their investments.
So, what does the FCA propose to do?
- Clarify the sometimes-confusing classification of "high risk investments". There will be a three-part classification: Readily Realisable Securities (RRS), such as listed shares, that can be sold without additional marketing restrictions; Non-Readily Realisable Securities (NRRS), such as certain cryptoassets, which can be sold to the mass market subject to restrictions; and Non-Mass Market Investments (NMMI), such as unauthorised funds, which cannot be marketed to retail investors.
- Improve marketing rules to ensure that investors enter high risk investments knowingly, via strengthening risk warnings, banning inducements (such as friend referral bonuses), introducing positive frictions (such as cooling off periods) to counter peer pressure, improving client classifications (ultimately to reduce consumers incorrectly classifying themselves as high-net-worth or sophisticated), and tightening firms’ appropriateness assessments (such as prescribing advisers’ questions and encouraging investors to undertake further due diligence).
- Develop a more robust regime for FCA-authorised firms that approve and communicate high-risk investments provided by unauthorised firms. The Government will introduce a new "s21 Gateway" that will include a Financial Promotion Requirement, limiting authorised firms from approving promotions for unauthorised persons unless the latter is in the same group of firms or is an Appointed Representative (and the FCA is consulting on the AR regime). The FCA’s proposals build on these forthcoming legislative changes.
- Build on HM Treasury's announcement that most currently unregulated cryptoassets will be brought into the regulatory regime (we recently wrote about the announcement). The FCA intends to apply the Restricted Mass Market Investments rules to cryptoassets.
These proposals are subject to consultation until 23 March 2022. No doubt there will be a flurry of activity from product providers and distributors once they have considered the implications for their business, and not least from those that will be subject to regulation for the first time.
Regardless, the proposals are a good indication of the type of outcomes that the FCA hopes to achieve. The consultation forms part of the FCA’s broader Consumer Investments Strategy, a three-year plan to reduce harm in retail investments. The FCA has been criticised for recent high-profile failures, such as London Finance & Capital, that have resulted in detriment to ordinary consumers. Moreover, the financial services industry is increasingly concerned about the rapidly escalating annual levy to fund the FSCS, which pays out to consumers for these failures (and the FCA is also consulting on reforms to the FSCS). The FCA will be keen to act robustly. Breaches of the rules could lead to severe consequences for firms, from regulatory fines through to criminal charges under the Fraud Act.
Finally, part of the UK’s broader policy agenda is to pursue "retailisation", spreading the ownership of higher yielding (and higher risk) private assets among the wider population. The newly created Long Term Asset Fund (LTAF) is an integral part of the agenda (and you can read our thoughts about the LTAF’s final rules). The FCA has committed to review its financial promotion rules with a view to facilitating the distribution of the new fund vehicle to retail investors. Those considerations do not form part of this FCA consultation but will be subject to a separate exercise “later this year”.