Technology has done much to increase cost transparency in recent years, yielding considerable power – and savings – to consumers. Price comparison websites, for example, make it easy for us to weigh the costs of regular household expenditure items – from holidays to utility services to home insurance – across multiple providers. Behind the technology of course, many workflows must operate efficiently to deliver on the promise of a good deal. Without robust data governance and management processes, the quality and completeness of information cannot be guaranteed, which undermines consumer choice.
These challenges are no doubt familiar to compliance teams at asset management firms. It’s fair to say there has been a revolution in transparency in the industry in recent years, with transaction costs very much in the spotlight. Europe has led the way, with MiFID II and the Packaged Retail and Insurance-based Investment Products (PRIIPS) Regulation spelling out specific requirements for how information on costs and charges should be collected, calculated and presented to end-investors.
But the direction of travel is common across major jurisdictions. All asset managers need to ensure that they meet disclosure requirements on transaction costs wherever they market their funds, ensuring their internal data management processes are sufficiently flexible to accommodate nuances in regulatory obligations.
In truth, we’re still in the early stages of this revolution, despite the Herculean efforts of compliance teams ahead of MiFID II’s introduction in January 2018. While deadlines undoubtedly drive change, every compliance officer knows compliance is a process, not a single event. As such, the industry is still working its way to the stage at which end-investors can make informed choices between providers based in part on accurate and comparable information on transaction costs.
This much was made clear earlier this year when the Financial Conduct Authority published the findings of its review of disclosure costs by asset managers. Acknowledging that the interaction between MiFID II, the PRIIPs Regulation and the UCITS Directive “is not seamless,” the UK regulator pointed to shortcomings in the calculation and disclosure of transaction costs, concluding: “Asset managers may be communicating with their customers in a manner that is unfair, unclear or misleading and as such investors can be confused and misled as to how much they are being charged.”
Nevertheless, much progress has been made. Compliance teams have collaborated closely with their colleagues on trading desks and investment operations to take or share ownership of best execution. Compliance officers have come to grips with the information and transaction flows across multiple markets, extending their skillset in support of evolving transparency requirements.
But there are still significant barriers to efficient and effective disclosure, meaning workflows are still highly manual and prone to error, and data outputs are often incomplete or inaccurate.
In many cases, over-burdened compliance staff have had to refocus on myriad other compliance process challenges once they found a way of meeting the initial MiFID II deadline. Ideally, any compliance process should be reviewed and refined periodically, to identify opportunities for improvement and automation. Too often the temptation is to repeat a process once established, no matter how imperfect, throwing bodies at the challenge if necessary to mask inefficiencies. A further fly in the ointment is the need to supply different levels of disclosure across jurisdictions. A process designed to meet one regulator’s requirements can require substantial, costly manual intervention to support compliance elsewhere.
In part, labor-intensive approaches are reluctantly accepted by asset managers large and small because their existing data management infrastructure is not set up to support the necessary data flows. Due to past M&A activity and/or a reluctance to replace trusted legacy technology, many firms still rely on a spaghetti of systems and connections. Historically, the focus has been on getting information to the front office, with little afterthought for how transaction inputs and outcomes can be stored and shared downstream for compliance purposes. Some firms are re-examining and re-engineering their data management infrastructure to take account of new realities, but these initiatives are not simple, quick or cheap to implement.
The limitations of incumbent system architectures can make it particularly difficult to handle the MIFID II/PRIIPS methodology for calculating implicit transaction costs. While arrival price is the specified measure for liquid, electronically traded instruments, asset managers can draw on a list of acceptable proxies for various over-the-counter instruments, e.g. last close or a benchmark value. On the one hand, it is no trivial task to build and automate the connections, routines and calculations to follow this waterfall systematically; on the other, it is not the best use of a highly trained and valuable human resource to keep this responsibility in the hands of a compliance officer.
In a highly regulated industry, compliance teams have to be cross-functional, working with colleagues in multiple business lines and departments to assess regulatory requirements and identify the most cost-effective and efficient methods and mechanisms for delivering the necessary data in an accurate and timely fashion. Increasingly, this means designing and overseeing processes, using the most suitable tools available in the marketplace, rather than compliance staff rolling up their sleeves and digging out their information themselves. At Compliance Solutions Strategies, we stand ready to work with buy-side compliance teams to supply the tools and solutions that complement in-house capabilities and resources.
Unlike regulatory mandates, there is no deadline for streamlining and automating the transaction cost transparency processes of asset management firms. But CEOs, CIOs, heads of trading and heads of compliance should be in no doubt that time is running out. In parallel with warnings from national competent authorities such as the FCA, the European Securities and Markets Authority has already issued fines to firms that have not met expected standards of data completeness and quality.
Transaction cost data from asset management firms may not have found its way onto price comparison websites. But it’s worth remembering that a core objective of MiFID II is to provide greater transparency and clarity to consumers, in order to encourage increased personal ownership of savings and investments decisions. Asset managers that can use technology to deliver cost transparency both efficiently and effectively will be best positioned to grow market share as new generations take greater responsibility for their investments. CSS can help. Explore our data management and reporting solutions, and contact us.
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CSS frequently publishes blog posts which are written by our team from their observations in the field, at conferences and through experiences with compliance professionals. These posts are designed to further knowledge and share industry best practices. Topics run the gamut, including Form ADV, cybersecurity, MiFID II, position limit monitoring, technology challenges and more. Complete and submit the brief form below to receive notifications when we publish new content.