Response to joint Discussion Paper on Key Information Documents (KIDs)
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The key questions should cover the entire life-cycle of the product and require short answers. In addition they should not be based on probability. Performance scenarios should show possible outcomes feasible under the PRIIP without any implications to their likelihood (e.g. questions: “how much can I win” followed by the question “How much am I likely to win?”) (See response to question 6).
The questions should therefore include the following questions:
• How much do I invest (including entry fees)?
• When will the money be taken out of my account (once, periodically…)?
• How much can I lose (worst case)? May I lose more than the amount invested (limited liability)?
• What is the expected term of the investment?
• Can I divest earlier (secondary market, exit fees)? What am I investing in? What is the legal format (deposit, note, fund…)?
• Are there any applicable protections or guarantees?
• Who supervises the issuer and the product?
• Will I receive periodic income or only once on the maturity date?
• What is the minimum return on my investment?
PRIIPS contains the obligation to indicate the maximum loss. Theoretically, for all products the maximum loss is at least 100%. An exaggerated representation of risk is as misleading as underrepresenting of risks. To achieve a good understanding in the perception of the investor, it is important that the circumstances under maximum loss may occur, are explained to the customer.
• Credit Risk should be defined in terms of the issuer’s ability to pay (which applies only if the PRIIP is a Note or Deposit or some other format in which the issuer’s balance sheet is liable for repayments of capital). In the case of SPV, funds or other similar structures the credit and market risks become more difficult to separate (in this case, the “balance sheet” of the SPV or the fund is the asset invested in).
• For most of the structured products, normally, the manufacturer is the only secondary market provider (if at all) – therefore, liquidity will surely be low or inexistent.
There may be other known risks that not are covered in the methodology. EBF members would like to see a separate section with a blank field (to be filled in if applicable – leaving some flexibility) that covers other risks.
• Measures of market risks:
- Under market risk, the first quantitative measure is ‘historical volatility’. Access to historical data is also one important factor that could put limitations to the use of some of the measures. Using this ‘historical volatility’ assumes that the past is a good predictor of the future, which might be critical. However, this choice could allow the comparison between the various products and might be easiest to explain to clients (fluctuation in market value of security). On the other hand, for new issues this historical information is of course not available, but proxies could be available as an alternative.
- The other proposed quantitative measures (mostly based on real forecasts or probability distributions) are probably not that easy to explain to retail investors. Methodologies like Value-at-Risk (VaR), Expected Loss for a given Value-at-Risk (ELVaR), Expected Shortfall for a given Value-at-Risk (ESVaR), are: (1) short-term measures (typically 1 day, 1 week); (2) too complicated to compute and, (3) unknown for retail investors.
- The document also mentions ‘other product design features’ as a qualitative measure of risk. Of course, such a ‘general’ statement leaves a lot of room for interpretation and will have to be elaborated in more detail in a next stage. Nevertheless, this seems to be a good option as under this section ‘other (additional) risks’ might be captured e.g. products with very complex features or (very) long tenor, subordinated paper, concentration risk).
- Further clarity would be required on the how market risk should be stated where there is no relevant history to derive this for a particular product
• Measures of credit risks
EBF members would like to warn against quantitative indicators that create false illusions of mastering the risk and at the same time are complex to construct. This warning is particularly relevant for indicators such as credit spread and Credit VaR.
- Credit spreads reflect not only default risks, but may also include a premium for liquidity risk, the lack of transparency and other risks. As such, they are flawed indicators of credit risk.
- In addition, credit spreads and/or CDS spreads are only readily available to the extent that there is sufficient secondary market trading. Even so, they can widen not only as a result of increased default risk, but also as a result of liquidity tightening on the financial markets. As such, they are not stable indicators of credit risk.
- Credit VaR has several disadvantages as an indicator of credit risk. The statistical data from which it is to be derived would typically be default percentages and their distribution throughout time over different rating categories. However, especially for the higher rating categories the default occurrences are typically very low and calculated over small samples. To ensure comparability over different asset managers, is would be imperative for the ESA’s to provide the VaR parameters to be used. However, even so, credit risk being a tail risk, Credit VaR may be prone to being misinterpreted.
- Much simpler and less prone to misinterpretation would be to look at ratings of the underlying instruments and the diversification within the PRIIPS. The diversification is particularly relevant as PRIIPS are not necessarily UCITS and hence not subject to the 5-10-40 rule. Ratings should not necessarily be limited to ratings by rating agencies, but can also be ratings internally assessed by an appropriate credit quality assessment process, although this could pose problems with regard to comparability and transparency (the investor cannot assess the internal assessment process).
• Measures of liquidity risk
- It should be noted that there is no bid-offer spread or average volume traded for new products;
- Most of the products will only have a limited secondary market (if any) provided by the manufacturer, but that doesn’t mean that liquidity is low.
Liquidity risk should be explained in qualitative format. For EBF members listing has no meaningful objectives for the liquidity of a security in all cases as it might apply to many PRIIPs. Presumably it would be relevant to estimate the liquidity of reference assets and underlying assets.
The measures proposed in the discussion paper are likely to be too complex or technical for consumers or too problematic to measure consistently. For example, bid-offer spread will change over time and therefore be problematic to apply appropriately in the KID.
The approach should be to keep this measure as simple as possible. For example an approach that sets out three levels of liquidity risk for the consumer could be used:
• A cash-in is available at any point before maturity
• An cash-in is available but this will be have significant impact [on fair value]
• There is no option to cash-in before maturity
The EBF doubts as to whether it is appropriate to disclose this level of detail in relation to costs in a 3 page document KID.
As suggested in the response to question 5 one alternative would be showing both historical back-test and forward simulation, by using the histograms of returns with some special highlighted percentiles. In this case, the shape of the histograms would give a clear picture of the dispersion of outcomes and which ones are more likely, without requiring the investor to be knowledgeable in statistics.
Option 2 applies where performance scenarios are selected on the basis of a probability distribution of expected returns fed by historical data. The EBF does not consider it expedient to base the performance scenarios on advanced probability and statistics calculation methods. Potentially the models may constitute a risk in itself. Indeed, manufacturers of different PRIIP might make their own assumptions about the future and therefore enter different input parameters into the agreed models for performance calculation. Furthermore, predicting future performance based on historical data could also lead to retail investors building up expectations that are too optimistic and will end up with disappointment when the market don’t repeat itself nor perform in line with the manufacturers predictions.
ESMA itself, in the document “ESMA Working Paper No. 1, 2015 Real-world and risk-neutral probabilities in the regulation on the transparency of structured products”, shows great concerns with the use of probabilities.
ESMA Working Paper No. 1, 2015 Real-world and risk-neutral probabilities in the regulation on the transparency of structured products. (...)4. Conclusions:
(….)First, real-world probabilities imply that the same product can have different probability scenarios, because of different plausible approaches to estimate the risk premium. Second, it may be difficult to have retail investors fully understand the hypothesis and caveat behind such approaches, in order to avoid that they blindly rely on them; in fact, retail investors should realize that, although scenarios are based on real-world probabilities, these are not “true” probabilities, in the sense of “frequentist probability”, but just estimates that are highly model-dependent, and that, for this reason, probability scenarios should not be the sole driver of the decision process. (…)
The EBF believes that each PRIIP category such as Funds, Structured products, Warrants etc. should have a risk indicator most appropriate for that specific category. A manufacturer in a PRIIP category must comply with the standards and methodology for calculating the risk indicator set by the Competent Authority. The Competent Authority should monitor and conduct supervision that manufacturers comply with the given standards.
Furthermore PRIIPS are structured in different way leading to a different cost structure, making comparison very difficult. A distinction in showing costs should be made based on the type of PRIIPS, meaning a different approach should be foreseen for e.g. an insurance-based investment products (2 levels, but more personalized and often including additional covers) and others for packaged retail investment products.
In particular indirect costs such as inflation, tax, dividends and costs embedded in the price of the PRIIP are problematic. It is unclear which costs should be included in the definition of indirect costs and if all costs can be explained to retail customers. In the EBF’s view the information should be simple, engaging and understandable and the section covering costs should be balanced compare to other sections in the KID.
Furthermore, the presentation may combine too many hypotheticals and end up misleading consumers. EBF members are in favour of presenting costs separately and to not include them in the performance scenarios.
By using histograms (both for historical and simulation with highlighted special percentiles: worst case, 10%, 50%, 90% and best case) it is possible to present all scenarios in a simple visual shape. It also fulfils other purposes and requires less explanation.
Other comments:
Page 44: Scenarios 3C as well as 3B should be regarded as market risk and the two other risk types should be stated subsequently (see above regarding Q5).
Page 48: The first sentence in section 4.2 does not make sense; cf. the comment below regarding bullet 6 in the chart on page 52).
Page 52: Regarding item/bullet 6 in the chart, it is our point of view that it is erroneous to regard the option price, that is prized into a principle protected structured product, as a cost. When the other costs are paid, the option price is actually a part of the creation of the return.
Regarding bullet 8 in the chart: Provided that here is variation between the different PRIIPs, it will probably be meaningless as well as work intensive to include this field. The majority of the product manufactures hardly have a data basis to provide a true answer.
Some members are in favour of a histogram with highlighted special percentiles for the following reasons:
• It focuses on the distribution of outcomes rather than specific scenarios (single element).
• Its shape gives an intuitive indication of probability (single impression of risk and return).
• It is simple and can be standardized (less reliance on narrative).
• It serves more than one purpose (e.g.: Questions 6 and 11).
• It may be used to illustrate both historical and model simulation (single approach).
Other members favour a table showing how a product reacts in case of a hypothetical development of an underlying.
Other members would support the ‘100 dot’ probability distributions as they are relatively easy to interpret and visualises a range of possible returns.
EBF members agree that all questions are relevant with the exception of questions 5, 6 and 8:
• Question 5: “How much of my initial investment remains after cost deduction? E.g. how much of my investment is really invested?”
For structured products as one example where costs are embedded in the purchase price, two possible approaches for disclosures are presented in section 4.4.1.2. In the consultation paper (page 55). The EBF favours the first approach: “Introduce a distinction between the investment’s price and the margin/fees that have been incorporated in the price”.
For example, if a manufacturer sells a structured Euro Medium Term Note (EMTN) at 1,000€, he should disclose in the KID that 3% (30€) of the purchase price is a sales commission and 2% (20€) of the acquisition price will be absorbed upfront to recompense the manufacturer for the costs the manufacturer incurs when structuring the note. The result is that 95% (950€) of the acquisition price will be invested in the note: there are 5% costs
• Question 6: “How much am I paying for my capital protection in relation to my overall investment?”
In the EBF members’ view it might be difficult to calculate the size of the “insurance premium” for enhancing capital protection. There is no standard method.
• Question 8 “How do these costs compare to other products?”
The cost section in the KID should make it possible for retail investor to compare costs between different PRIIPs. To conduct this comparison the customer needs to look at the KID for each of the different PRIIP and then do the comparison on his/her own. In the EBF’s view is that it would be difficult to put as a requisite that each KID should contain cost information for all different PRIIPs.
Indeed, as a rule of thumb, the retail investor should be aware of all the costs that he/she faces directly and that might impact his decision (e.g. entry and exit fees, management fees, performance fees and so on). Costs like transaction costs incurred by a fund on managing the portfolio, for instance, are irrelevant to the investor’s decision and are difficult (if not impossible) to estimate beforehand. Too much information about costs can mislead the importance of some of them.
Detailed third party costs or other costs to which manufacturers do not have access to (e.g. broker costs, as these are different for each broker) should not form part of the calculation of how much of my initial investment remains after cost deduction.
The costs for managing the insurance cover should be excluded.
As previously indicated, as the KID is a manufacturer document it is key that manufacturers are only required to disclose costs within their knowledge and under their control (as the manufacturer is responsible for the accuracy of the KID). Costs not known by the manufacturer cannot be disclosed in the KID including, for example, advice fees and certain brokerage/distribution costs.
Licence fees and brokerage costs paid by the manufacturer should not be disclosable as it is difficult to assess the cost per product and these are usually part of an overall pricing package. The same is often true for listing fees. Moreover, these fees will be paid by the manufacturer out of the structuring fee and will not be directly charged to the investor, for that reason there is no reason to disclose these fees separately.
EBF members believe that the cost of production of a KID would be disproportionate for OTC trades, and that they should be ruled out of scope. Distributors will need to be able to demonstrate compliance with their obligations under MiFID to ensure understanding; the bespoke nature of OTC trades makes the KID an unwieldy way of approaching this. We also note that FX Forwards, ruled as derivatives for EMIR purposes, would also fall into scope – and do not believe that a KID would be an appropriate form of pre-trade disclosure.
EBF members also believe that the cost and practicalities of delivering a KID would be disproportionate for Exchange-traded Derivatives. These are simple, standardised products readily capable of being understood without the disclosures of a KID. MiFID obligations on distributors in this respect would still apply. We note that the leveraged nature of option trades would make frequent updates of the KID necessary, and that the cost and complexity of achieving this for the full range of exchange-traded contracts would be likely to outweigh the benefit.
The presentation of the costs in the PRIIPs KID should be aligned with MiFID 2 and IMD 2 for insurance based investment products. To compare the costs an agreed break down of relevant direct- and indirect costs is needed. EBF members suggest including only costs that affect the investor’s decision (e.g. entry and exit fees, management fees, performance fees, etc.) and redirect the investor to a more comprehensive/ specific documents.
A next step could be to agree on how to adjust for when the cost occurs (up front- or annual fees) so that the comparison could reflect the annual cost for different PRIIP over a certain holding period.
Disclosure on costs should be kept as simple as possible. There should be a consistent approach between the requirements for PRIIPS and other instruments such as MiFID II, and the regulators must ensure co-ordination on this (as referred to in Question 1).
The traditional definition of a ‘retail investment product’ is significantly expanded with the introduction of derivatives within the scope of PRIIPS.
Derivatives can be complex in terms of their structuring, and cost structures. Therefore clear guidance and definition of what should be classified and disclosed as a ‘cost’ needs to be provided, and what level of ‘look though’ of the product is required when stating costs. For example, an interest rate swap would have explicit and implicit costs such as an advice fee and counterparty profit/loss fees, but should dealer costs be included? The ability to identify costs on a product by product basis for derivatives is likely to be very challenging for manufacturers.
Guidance is also required for derivatives that do not have ‘fixed’ costs. For example, [exchange traded] call options could only state indicative costs in the KID at the outset, as the price terms (and performance / risk parameters) will move until it is traded. Would indicative costs be acceptable? What should the manufacture do when the price moves; should they issue another KID? Would an indicative spread of costs be acceptable, with disclosure that these are subject to change?
Furthermore, it will be important to ensure that all manufacturers disclose the same types of costs using the same methodology (for example, currently methodologies used in relation to funds vary considerably to those used for structured products and methodologies also vary as between manufacturers).
Also, it is critical to ensure that manufacturers are not required to disclose costs information in the KID which relates to third party costs or other costs to which they do not have access (e.g. broker commissions, stamp duties, transaction taxes, foreign exchange costs, advice fees, distribution fees from third parties among others).
The separate cost elements can only be estimated and one should not attempt to calculate the costs of the basis of a theoretic ‘fair value’ cost.
The costs vary depending on the manufacturer’s business model, ability to handle risk, competence, efficiency and other factors.
The EBF does not agree that implicit or explicit growth rates should be assumed for the purpose of estimating ‘total aggregate costs’ because these growth rates will differ per type of PRIIP and therefor the comparability of the PRIIPS will not be achieved. In fact may become misleading:
• In the context of structured products, in general, costs are not dependent on growth rates, unlike, for example, open ended products with variable fees which are affected by the length of time the product is held;
• It may be misleading to show upfront costs in such a way. If, for example, the market rises by 10% per year, the fee will look low;
• It would be necessary to include various assumptions which would be inappropriate for a 3 page KID.
For structured products the specification of the costs should be presented clear and easy, only a percentage of the nominal and what the impact is on the return. The examples are in most cases to difficult and will not provide a clear overview for the investor.
The listed cost parameters could have an impact on the return of the product. The information should be simple and understandable, and the cost section should be balanced compared to the other sections of the KID. If all the costs listed in table 12 are to be addressed separately then this objective will be difficult to fulfil.
Indirect costs such as inflation, tax, missing dividends and return from alternative investment should not be addressed as costs at all. Implicit costs (i.e. costs embedded into the price of the product) should be addressed with the clear distinction that they are not deducted from the initial investment. Implicit costs are compensation to the manufacturer for the costs involved when structuring the note.
Dividends should not be shown as costs. The remaining dividends will appear in the return scenarios.
The RTS should not be very strict in this sense, and once this minimum information has been included, each entity should be free. We do not agree with the DP that this can create confusion for clients.
We agree that standardisation would be helpful. In respect of the manufacturer we believe that a website link would be the most efficient presentation method and should be sufficient.
We agree that the name of the authority should be provided and that manufacturers should have the option to include ISINs or similar identifiers where these are available at the date of publication of the KID.
For example, variables difficult to understand could be exactly the ones reducing the product risks (i.e. a barrier that stops potential losses); the inclusion of an alert in this case could warn the client from acquiring a product with a lower risk and force the entities to distribute products with higher risks in order to avoid this “label”.
Legal classification could be a good starting point. A risk classification is not appropriate as these are described in other section of the KID, it will be reiterative and an unnecessary due to the reduced size of the kid.
It is important to clarify that PRIIPs regulation intends to regulate the information given to the client, but no try to impose/create new classification. Classifications used by entities to classify their products in order to develop suitability and appropriateness test should remain at the entire entity decision.
The EBF considers that further guidance should be provided to set up a standard. However, the typologies should not result in a protracted and burdensome legislative process.
The way forward should be for general principles in completing the KID, therefore allowing manufacturers the flexibility to express features correctly e.g. similar to a product summary. Prescribed statements should be kept to a minimum as these will not necessarily reflect the product, and will require a product summary in addition to be issued to the consumer.
The summary information on the pay-off structure in the KID might be supported by a cross-reference to where more detailed information is provided (e.g. the Prospectus documentation or the contractual document).
Further discussions are needed on this point.
• Insurance products related, to the whole life;
• Some investment fund whose investment strategy permits an ongoing offer without any term;
• The open-ended certificates.
There are PRIIPS where terms may be more complex to describe.
For example:
• Auto-callable (kick-out) structures where there is a scheduled maturity date, but which can automatically mature prior to the schedules date upon certain conditions. These types of structure are readily available to retail investors.
• For convertible bonds, guidance would be required on who should manufacture the KID. Would this be the lead underwriter?
• There would be additional complexity when having to describe US and European options as features vary, for example US options can be exercised at any time, whereas European options can only be exercised at the expiration date.
In the absence of investor compensation or guarantee scheme foreseen, it should be possible for the PRIIPS manufacturer to explain how the products is protected against insolvency by e.g. the specific product set-up.
The only way the ‘how do I complain’ information can work is if the KID states that the consumer should refer to the Distributor / Adviser in the first instance.
A manufacturer may have their product distributed via a number of organisations or channels (e.g. platforms) and therefore could not be specific on the complaint route.
Members have expressed concern that the Belgian risk label might be confusing the investors to a certain extent. In particular the double class indicator might be misleading in that sense that the product is not both a B and a D type (for example) but either a B or a D. Showing both B and D might suggest the product is actually a C, which obviously isn’t the case.
Nevertheless further guidelines are needed in order to clarify what is considered to be a ‘material’ change.
Some other comments regarding to review, revision and republication of the KID:
(i) In accordance with the Recital 12 of the Regulation, the update obligations shall apply only when “the PRIIP is traded on a secondary market”. Consequently, Level 2 of the Regulation must clearly exclude non-tradable products from the scope of this obligation.
However, the DP considers the potential sale to the issuer as a “secondary market” and thus, subjects that situation to the update obligation (point 7.1). EBF members cannot agree with that. An updated KID must be provided when a secondary market exists to ensure that potential retail buyers are aware of the nature and risk of the structured investment products (pre-trade information), but not to inform the actual owner about the potential risk and costs that may be applicable in the case of an early redemption (i.e. if the product is sold to the issuer), as they were already included in the KIID received by the client at the acquisition of the product.
Update obligations for PRIIPs that are not traded in a “secondary market” could be understandable only in case of Funds products where changes in the investment policy may affect to the investment key features and may imply risks that could not be assessed by clients in the purchase of the product.
The question also remains how to treat bonds (structured notes) on a secondary market. First of all the secondary market for bonds cannot be guaranteed (a bond can be liquid now, but untradeable at a later moment). It is not clear if the secondary bonds fall under the exception of ‘no secondary market’ or not.
(ii) The conditions and the material changes that imply that KID will be reviewed should be defined carefully. These definitions should not be restrictive in order to avoid unnecessary administrative costs e.g. as secondary market price of a bond can change every minute, it cannot be the regulator’s intention to change a KID with every change in price.
It is necessary to consider the impact that other regulations may have on the PRIIP in question. For example, if cases where the PRIIP is subject to de prospectus directive, an update on the prospectus should not overlap with a requirement to update the KID. In case that KID is updated if it is affected by a materially important change, a periodical review would not be necessary, as KID will always be updated.
The KID provider does not know the identity of potential investors that may buy the product in the secondary market and cannot send or personally provide with the updated KID to them. Consequently, the only practicable way to communicate the update of the KID shall be the publication of a new KID on the manufacturer’s webpage. Its obligation shall consist only in uploading the new KID to the web so every investor interested in the product can access to the last version.
Indeed, depending on the scope of other information points in the KID, e.g. costs on non-continuous offers, the drawing up of a reviewed KID could take place on the first day of listing on a secondary marketplace. Costs could be included in the primary market price but not, or different, in the secondary market price. Some products (for example constant leverage certificate) are very volatile, e.g. substantial intraday price fluctuations, which would render updating the KID daily.
As far as the secondary market is concerned, it is the EBF understanding that the KID must be updated/reviewed only in a situation where manufacturer/issuer ‘facilitates the secondary market’ on which the retail investor can still buy/sell such a product. In a situation where there is no interference of the manufacturer, the product didn’t reach the maturity and the retail investor sells the PRIIP to another investor we understand that the KID doesn’t need to be updated by the manufacturer/issuer.
Many Structured Products are available for purchase for a limited period following their initial issuance. After this period ends, they can be redeemed or held to maturity. As the KID is intended to inform purchase decisions, we believe it should only need updating during the period in which purchases are possible. During this period, it should be updated in response to material changes in market conditions. A definition of materiality is clearly required; we would suggest that updates are required if the purchase price has moved by more than 5% from the level on which the current KID was based.
We see a potential challenge with regard to the secondary bonds (e.g. structured notes) market. The product manufacturer (issuer) is responsible for updating the KID. If for secondary bonds a KID is needed, then the entity selling/offering bonds from different issuers might have a huge problem with receiving the KIDs from other issuers and creating a KID by the ‘selling/offering’ entity for each every secondary bond doesn’t seem to be an appropriate and workable option either…and other way around is this same problem (if the ‘selling/offering’ entity is also an issuer, how should this entity know to whom the updated KID must be sent? The issuer-entity doesn’t know all the intermediaries in between who sell the bonds to their clients).
The EBF notes that the intention of the Regulation and the KID is to give the consumer ample relevant information to make an informed decision before purchasing an investment product that falls within the scope of the Regulation. With this in mind it is important to avoid a continuous flow of information towards a client who already purchased the PRIIP. Instead, we suggest that the manufacturer publishes, on its website, the up-to-date version of the KID. This regularly reviewed and revised KID would have to be made available by the product manufacturer on its website as long as the investment product is being offered to retail investors.
Furthermore it would not be reasonable/practicable to require manufacturers to actively inform investors of changes to the KID as they typically have no direct relations with the end investor. Even the distributor may not have a continuing relationship with the end investor after the initial sale of the product. Provided the initial KID states where updates to the KID will be published (e.g. on a specified website) this should be sufficient.
Furthermore it should be clear that a KID shall only be required for investment products that are issued after the Regulation becomes effective. Application of the requirement of a KID for investment products that have been issued in the past, would result in a burdensome legacy that could potentially affect the secondary market of existing investment products.
The following considerations should be taken into account:
- A general timeframe that works as a safe harbour for distributors irrespectively of the experience or knowledge of the investor must be included.
- Experience shall include not only same products, but also in similar ones (i.e. structured deposit linked to share and structured bond linked to shares).
It must not be considered as a mandatory timeframe between the date the KID is made available for the investor and the purchase date: the distributor must provide the investor with the KID and the investor must have time until d+X to purchase the product, but if the investor does not need that time or does not want no wait until the end, it may be able to acquire the product immediately.
It is common practice in High Net Worth markets for Structured Products to be marketed via private placement and on indicative terms. This avoids the cost of pre-hedging the structure. The product is marketed on a “worst-case” basis, with final terms confirmed after launch. The PRIIPs regime should allow for this approach to be taken to the KID, i.e. for an indicative KID to be distributed for consideration by potential investors, with a final version distributed within [5] days of issuance.
There are many obligations that are still very open and theoretical even in the DP (i.e. non-technical language, (underlying assets) in which retail investors do not commonly invest – rec18) and may be implemented in different ways by firms and interpreted in many various manners by supervisors and courts. In our opinion accurate and complete templates/examples would be the only way to be able to (i) improve the quality and comparability of information provided to retail investor regarding to PRIIPs; (ii) improve legal certainty for firms.
However, some flexibility should be allowed/considered to accommodate special cases.
If templates are to be used, this should only act as guidance for what needs to be included on a section by section basis in order to introduce a consistent overall format for consumers, and allow for flexibility for manufactures. As stated in question 34, prescribed language should be avoided.
Only in case that the information related to the summary risk indicator, performance scenarios and cost information would be materially different for regular payment versus single payment arrangements, a separate KID might be considered.
2: Do you agree with the description of the consumer´s perspective on risk expressed in the Key Questions?
The EBF believes that a “Frequently Asked Questions” format should be preferred. Some questions could appear too sophisticated for ‘average retail customer’.The key questions should cover the entire life-cycle of the product and require short answers. In addition they should not be based on probability. Performance scenarios should show possible outcomes feasible under the PRIIP without any implications to their likelihood (e.g. questions: “how much can I win” followed by the question “How much am I likely to win?”) (See response to question 6).
The questions should therefore include the following questions:
• How much do I invest (including entry fees)?
• When will the money be taken out of my account (once, periodically…)?
• How much can I lose (worst case)? May I lose more than the amount invested (limited liability)?
• What is the expected term of the investment?
• Can I divest earlier (secondary market, exit fees)? What am I investing in? What is the legal format (deposit, note, fund…)?
• Are there any applicable protections or guarantees?
• Who supervises the issuer and the product?
• Will I receive periodic income or only once on the maturity date?
• What is the minimum return on my investment?
PRIIPS contains the obligation to indicate the maximum loss. Theoretically, for all products the maximum loss is at least 100%. An exaggerated representation of risk is as misleading as underrepresenting of risks. To achieve a good understanding in the perception of the investor, it is important that the circumstances under maximum loss may occur, are explained to the customer.
3: Do your agree that market, credit and liquidity risk are the main risks for PRIIPs? Do you agree with the definitions the ESA’s propose for these?
The risk determinants (market, credit and liquidity risk) described in the discussion paper are essential risks that need to be addressed, however legal risks (in particular, changes in tax laws) should be also taken into account. It is important to note that:• Credit Risk should be defined in terms of the issuer’s ability to pay (which applies only if the PRIIP is a Note or Deposit or some other format in which the issuer’s balance sheet is liable for repayments of capital). In the case of SPV, funds or other similar structures the credit and market risks become more difficult to separate (in this case, the “balance sheet” of the SPV or the fund is the asset invested in).
• For most of the structured products, normally, the manufacturer is the only secondary market provider (if at all) – therefore, liquidity will surely be low or inexistent.
There may be other known risks that not are covered in the methodology. EBF members would like to see a separate section with a blank field (to be filled in if applicable – leaving some flexibility) that covers other risks.
4: Do you have a view on the most appropriate measure(s) or combinations of these to be used to evaluate each type of risk? Do you consider some risk measures not appropriate in the PRIIPs context? Why? Please take into account access to data.
The EBF believes that the most appropriate measure to evaluate and explain risk to consumers depends on the PRIIPs characteristics. How the products behave, open ended vs fixed maturity, linear or nonlinear exposure to the underlying asset, level of protection etc. The different PRIIPs need different measure to evaluate risk. A risk measure appropriate for funds might be inappropriate for other types of PRIIP such as structured products.• Measures of market risks:
- Under market risk, the first quantitative measure is ‘historical volatility’. Access to historical data is also one important factor that could put limitations to the use of some of the measures. Using this ‘historical volatility’ assumes that the past is a good predictor of the future, which might be critical. However, this choice could allow the comparison between the various products and might be easiest to explain to clients (fluctuation in market value of security). On the other hand, for new issues this historical information is of course not available, but proxies could be available as an alternative.
- The other proposed quantitative measures (mostly based on real forecasts or probability distributions) are probably not that easy to explain to retail investors. Methodologies like Value-at-Risk (VaR), Expected Loss for a given Value-at-Risk (ELVaR), Expected Shortfall for a given Value-at-Risk (ESVaR), are: (1) short-term measures (typically 1 day, 1 week); (2) too complicated to compute and, (3) unknown for retail investors.
- The document also mentions ‘other product design features’ as a qualitative measure of risk. Of course, such a ‘general’ statement leaves a lot of room for interpretation and will have to be elaborated in more detail in a next stage. Nevertheless, this seems to be a good option as under this section ‘other (additional) risks’ might be captured e.g. products with very complex features or (very) long tenor, subordinated paper, concentration risk).
- Further clarity would be required on the how market risk should be stated where there is no relevant history to derive this for a particular product
• Measures of credit risks
EBF members would like to warn against quantitative indicators that create false illusions of mastering the risk and at the same time are complex to construct. This warning is particularly relevant for indicators such as credit spread and Credit VaR.
- Credit spreads reflect not only default risks, but may also include a premium for liquidity risk, the lack of transparency and other risks. As such, they are flawed indicators of credit risk.
- In addition, credit spreads and/or CDS spreads are only readily available to the extent that there is sufficient secondary market trading. Even so, they can widen not only as a result of increased default risk, but also as a result of liquidity tightening on the financial markets. As such, they are not stable indicators of credit risk.
- Credit VaR has several disadvantages as an indicator of credit risk. The statistical data from which it is to be derived would typically be default percentages and their distribution throughout time over different rating categories. However, especially for the higher rating categories the default occurrences are typically very low and calculated over small samples. To ensure comparability over different asset managers, is would be imperative for the ESA’s to provide the VaR parameters to be used. However, even so, credit risk being a tail risk, Credit VaR may be prone to being misinterpreted.
- Much simpler and less prone to misinterpretation would be to look at ratings of the underlying instruments and the diversification within the PRIIPS. The diversification is particularly relevant as PRIIPS are not necessarily UCITS and hence not subject to the 5-10-40 rule. Ratings should not necessarily be limited to ratings by rating agencies, but can also be ratings internally assessed by an appropriate credit quality assessment process, although this could pose problems with regard to comparability and transparency (the investor cannot assess the internal assessment process).
• Measures of liquidity risk
- It should be noted that there is no bid-offer spread or average volume traded for new products;
- Most of the products will only have a limited secondary market (if any) provided by the manufacturer, but that doesn’t mean that liquidity is low.
Liquidity risk should be explained in qualitative format. For EBF members listing has no meaningful objectives for the liquidity of a security in all cases as it might apply to many PRIIPs. Presumably it would be relevant to estimate the liquidity of reference assets and underlying assets.
The measures proposed in the discussion paper are likely to be too complex or technical for consumers or too problematic to measure consistently. For example, bid-offer spread will change over time and therefore be problematic to apply appropriately in the KID.
The approach should be to keep this measure as simple as possible. For example an approach that sets out three levels of liquidity risk for the consumer could be used:
• A cash-in is available at any point before maturity
• An cash-in is available but this will be have significant impact [on fair value]
• There is no option to cash-in before maturity
5: How do you think market, credit and liquidity risk could be integrated? If you believe they cannot be integrated, what should be shown on each in the KID?
This question makes clear that it is not possible to define a definite absolute figure as total aggregate cost. The KID should make clear that future (currently unknown) costs may apply.The EBF doubts as to whether it is appropriate to disclose this level of detail in relation to costs in a 3 page document KID.
6: Do you think that performance scenarios should include or be based on probabilistic modelling, or instead show possible outcomes relevant for the payouts feasible under the PRIIP but without any implications as to their likelihood?
The EBF suggests that a graph showing historical performance for the underlying asset should be presented instead of numbers based on probabilistic modelling. Probabilistic scenario’s that are based on modelling price data runs into many problems, resulting in presentations that are neither reliable, nor robust, nor comparable. Scenario’s which create the illusion that probability is mastered are to be avoided. Technically, these models are often derived from risk-neutral world concepts (see CONSOB, Working Paper 74, august 2013: “Real-world and risk-neutral probabilities in the regulation on the transparency of structured products”). It should be avoided to mix risk-neutral world concepts with the real world.As suggested in the response to question 5 one alternative would be showing both historical back-test and forward simulation, by using the histograms of returns with some special highlighted percentiles. In this case, the shape of the histograms would give a clear picture of the dispersion of outcomes and which ones are more likely, without requiring the investor to be knowledgeable in statistics.
Option 2 applies where performance scenarios are selected on the basis of a probability distribution of expected returns fed by historical data. The EBF does not consider it expedient to base the performance scenarios on advanced probability and statistics calculation methods. Potentially the models may constitute a risk in itself. Indeed, manufacturers of different PRIIP might make their own assumptions about the future and therefore enter different input parameters into the agreed models for performance calculation. Furthermore, predicting future performance based on historical data could also lead to retail investors building up expectations that are too optimistic and will end up with disappointment when the market don’t repeat itself nor perform in line with the manufacturers predictions.
ESMA itself, in the document “ESMA Working Paper No. 1, 2015 Real-world and risk-neutral probabilities in the regulation on the transparency of structured products”, shows great concerns with the use of probabilities.
ESMA Working Paper No. 1, 2015 Real-world and risk-neutral probabilities in the regulation on the transparency of structured products. (...)4. Conclusions:
(….)First, real-world probabilities imply that the same product can have different probability scenarios, because of different plausible approaches to estimate the risk premium. Second, it may be difficult to have retail investors fully understand the hypothesis and caveat behind such approaches, in order to avoid that they blindly rely on them; in fact, retail investors should realize that, although scenarios are based on real-world probabilities, these are not “true” probabilities, in the sense of “frequentist probability”, but just estimates that are highly model-dependent, and that, for this reason, probability scenarios should not be the sole driver of the decision process. (…)
7: How would you ensure a consistent approach across both firms and products were a modelling approach to be adopted?
It is almost impossible to ensure a consistent approach because: (1) there is not a single model that is widely accepted by market participants and (2) rough market data is handled differently by each manufacturer. Therefore, models are developed in-house, models and market data are adapted to take into account market quirks (fat 3 tails, smiles, jumps) not taken into account by the statistical distributions on which the models are based.The EBF believes that each PRIIP category such as Funds, Structured products, Warrants etc. should have a risk indicator most appropriate for that specific category. A manufacturer in a PRIIP category must comply with the standards and methodology for calculating the risk indicator set by the Competent Authority. The Competent Authority should monitor and conduct supervision that manufacturers comply with the given standards.
8: What time frames do you think would be appropriate for the performance scenarios?
The EBF believes that the timeframe should be flexible for different PRIIPs. The EBF supports the approach proposing a time frame which would vary according to the maturity of the product or the recommended holding period and the type of the product e.g. bond, open-ended PRIIPS, insurance-based products etc.9: Do you think that performance scenarios should include absolute figures, monetary amounts or percentages or a combination of these?
The EBF suggests monetary amounts and/or percentages. In the EBF’s views, percentages are easier to compare (Annual percentages facilitate comparison among products with different time frames and holding periods) because they have no units; which means less assumptions (amount invested, investment currency, etc.).10: Are you aware of any practical issues that might arise with performance scenarios presented net of costs?
Given that costs change over time, costs may depend on the amount invested and on the investor’s decisions. Presenting performance scenarios net of costs would require making assumptions (not related to the PRIIP) obscuring the analysis.Furthermore PRIIPS are structured in different way leading to a different cost structure, making comparison very difficult. A distinction in showing costs should be made based on the type of PRIIPS, meaning a different approach should be foreseen for e.g. an insurance-based investment products (2 levels, but more personalized and often including additional covers) and others for packaged retail investment products.
In particular indirect costs such as inflation, tax, dividends and costs embedded in the price of the PRIIP are problematic. It is unclear which costs should be included in the definition of indirect costs and if all costs can be explained to retail customers. In the EBF’s view the information should be simple, engaging and understandable and the section covering costs should be balanced compare to other sections in the KID.
Furthermore, the presentation may combine too many hypotheticals and end up misleading consumers. EBF members are in favour of presenting costs separately and to not include them in the performance scenarios.
11: Do you have any preferences in terms of the number or range of scenarios presented? Please explain.
EBF members are of the opinion that it depends on what is most appropriate for the PRIIP in question i.e. according to the PRIIPs characteristics. The range of scenarios should capture the possible features feasible for the PRIIP and there should be a balance between positive and negative scenarios. It could be reasonable to present three scenarios, favourable, medium or slightly unfavourable and a negative one (similar to the “crash scenario” in the UK). With these options, the client can have a clear picture about risks and benefits to compare with others.By using histograms (both for historical and simulation with highlighted special percentiles: worst case, 10%, 50%, 90% and best case) it is possible to present all scenarios in a simple visual shape. It also fulfils other purposes and requires less explanation.
12: Do you have any views, positive or negative, on the different examples for presentation of a summary risk indicator? Please outline advantages and disadvantages, and provide any other examples that you are aware of that you think would be useful.
EBF members are divided concerning their preference for either a summary risk indicator or for keeping market, credit and liquidity risks separate. The EBF is not able to express a single viewpoint on this question.Other comments:
Page 44: Scenarios 3C as well as 3B should be regarded as market risk and the two other risk types should be stated subsequently (see above regarding Q5).
Page 48: The first sentence in section 4.2 does not make sense; cf. the comment below regarding bullet 6 in the chart on page 52).
Page 52: Regarding item/bullet 6 in the chart, it is our point of view that it is erroneous to regard the option price, that is prized into a principle protected structured product, as a cost. When the other costs are paid, the option price is actually a part of the creation of the return.
Regarding bullet 8 in the chart: Provided that here is variation between the different PRIIPs, it will probably be meaningless as well as work intensive to include this field. The majority of the product manufactures hardly have a data basis to provide a true answer.
13: Do you have any views, positive or negative, on the different examples for presentation of performance scenarios? Please outline advantages and disadvantages, and provide any other examples that you are aware of that you think would be useful.
EBF members are divided over how to present the performance scenarios.Some members are in favour of a histogram with highlighted special percentiles for the following reasons:
• It focuses on the distribution of outcomes rather than specific scenarios (single element).
• Its shape gives an intuitive indication of probability (single impression of risk and return).
• It is simple and can be standardized (less reliance on narrative).
• It serves more than one purpose (e.g.: Questions 6 and 11).
• It may be used to illustrate both historical and model simulation (single approach).
Other members favour a table showing how a product reacts in case of a hypothetical development of an underlying.
Other members would support the ‘100 dot’ probability distributions as they are relatively easy to interpret and visualises a range of possible returns.
14: Do you have any views on possible combinations of a summary risk indicator with performance scenarios?
EBF members do not believe that combining the summary risk indicator with performance scenarios would simplify retail investor’s ability of understanding. In any case this should be kept as simple as possible, and the risk elements should be kept to a single element. Therefore option 2B should be the way forward.15: Do you agree with the description of the consumer´s perspective on costs expressed in the Key Questions?
EBF members think that an aggregated cost disclosure is the most appropriate way of being transparent and understood by the client. In the end the client wants to know the total amount of the investment. Moreover, giving too much and too detailed kind of information will lead to an overload of information.EBF members agree that all questions are relevant with the exception of questions 5, 6 and 8:
• Question 5: “How much of my initial investment remains after cost deduction? E.g. how much of my investment is really invested?”
For structured products as one example where costs are embedded in the purchase price, two possible approaches for disclosures are presented in section 4.4.1.2. In the consultation paper (page 55). The EBF favours the first approach: “Introduce a distinction between the investment’s price and the margin/fees that have been incorporated in the price”.
For example, if a manufacturer sells a structured Euro Medium Term Note (EMTN) at 1,000€, he should disclose in the KID that 3% (30€) of the purchase price is a sales commission and 2% (20€) of the acquisition price will be absorbed upfront to recompense the manufacturer for the costs the manufacturer incurs when structuring the note. The result is that 95% (950€) of the acquisition price will be invested in the note: there are 5% costs
• Question 6: “How much am I paying for my capital protection in relation to my overall investment?”
In the EBF members’ view it might be difficult to calculate the size of the “insurance premium” for enhancing capital protection. There is no standard method.
• Question 8 “How do these costs compare to other products?”
The cost section in the KID should make it possible for retail investor to compare costs between different PRIIPs. To conduct this comparison the customer needs to look at the KID for each of the different PRIIP and then do the comparison on his/her own. In the EBF’s view is that it would be difficult to put as a requisite that each KID should contain cost information for all different PRIIPs.
Indeed, as a rule of thumb, the retail investor should be aware of all the costs that he/she faces directly and that might impact his decision (e.g. entry and exit fees, management fees, performance fees and so on). Costs like transaction costs incurred by a fund on managing the portfolio, for instance, are irrelevant to the investor’s decision and are difficult (if not impossible) to estimate beforehand. Too much information about costs can mislead the importance of some of them.
Detailed third party costs or other costs to which manufacturers do not have access to (e.g. broker costs, as these are different for each broker) should not form part of the calculation of how much of my initial investment remains after cost deduction.
16: What are the main challenges you see in achieving a level-playing field in cost disclosures, and how would you address them?
The cost for listing on the exchange and the cost for index licenses.The costs for managing the insurance cover should be excluded.
As previously indicated, as the KID is a manufacturer document it is key that manufacturers are only required to disclose costs within their knowledge and under their control (as the manufacturer is responsible for the accuracy of the KID). Costs not known by the manufacturer cannot be disclosed in the KID including, for example, advice fees and certain brokerage/distribution costs.
Licence fees and brokerage costs paid by the manufacturer should not be disclosable as it is difficult to assess the cost per product and these are usually part of an overall pricing package. The same is often true for listing fees. Moreover, these fees will be paid by the manufacturer out of the structuring fee and will not be directly charged to the investor, for that reason there is no reason to disclose these fees separately.
17: Do you agree with the outline of the main features of the cost structures for insurance-based investment products, structured products, CfDs and derivatives? Please describe any other costs or charges that should be included.
If complicated risk measures such as VaR, ELVaR, Expected Shortfall VaR, Credit value at risk become mandatory, the implementation costs will be considerable even if the manufacturer already uses such measures in its internal risk measurement and assessment. Infrequent / small volume issuers would most likely be driven off the market.EBF members believe that the cost of production of a KID would be disproportionate for OTC trades, and that they should be ruled out of scope. Distributors will need to be able to demonstrate compliance with their obligations under MiFID to ensure understanding; the bespoke nature of OTC trades makes the KID an unwieldy way of approaching this. We also note that FX Forwards, ruled as derivatives for EMIR purposes, would also fall into scope – and do not believe that a KID would be an appropriate form of pre-trade disclosure.
EBF members also believe that the cost and practicalities of delivering a KID would be disproportionate for Exchange-traded Derivatives. These are simple, standardised products readily capable of being understood without the disclosures of a KID. MiFID obligations on distributors in this respect would still apply. We note that the leveraged nature of option trades would make frequent updates of the KID necessary, and that the cost and complexity of achieving this for the full range of exchange-traded contracts would be likely to outweigh the benefit.
18: Do you have any views on how implicit costs, for instance costs embedded within the price of a structured product, might be best estimated or calculated?
Different kinds of products have different cost structures. Similar legal format products, however, tend to have similar cost structures. Trying to make all products/formats conform to the same template or trying to accommodate for all special cases will be unworkable. The objective of a compiled and comparable APR is hardly achievable.The presentation of the costs in the PRIIPs KID should be aligned with MiFID 2 and IMD 2 for insurance based investment products. To compare the costs an agreed break down of relevant direct- and indirect costs is needed. EBF members suggest including only costs that affect the investor’s decision (e.g. entry and exit fees, management fees, performance fees, etc.) and redirect the investor to a more comprehensive/ specific documents.
A next step could be to agree on how to adjust for when the cost occurs (up front- or annual fees) so that the comparison could reflect the annual cost for different PRIIP over a certain holding period.
Disclosure on costs should be kept as simple as possible. There should be a consistent approach between the requirements for PRIIPS and other instruments such as MiFID II, and the regulators must ensure co-ordination on this (as referred to in Question 1).
The traditional definition of a ‘retail investment product’ is significantly expanded with the introduction of derivatives within the scope of PRIIPS.
Derivatives can be complex in terms of their structuring, and cost structures. Therefore clear guidance and definition of what should be classified and disclosed as a ‘cost’ needs to be provided, and what level of ‘look though’ of the product is required when stating costs. For example, an interest rate swap would have explicit and implicit costs such as an advice fee and counterparty profit/loss fees, but should dealer costs be included? The ability to identify costs on a product by product basis for derivatives is likely to be very challenging for manufacturers.
Guidance is also required for derivatives that do not have ‘fixed’ costs. For example, [exchange traded] call options could only state indicative costs in the KID at the outset, as the price terms (and performance / risk parameters) will move until it is traded. Would indicative costs be acceptable? What should the manufacture do when the price moves; should they issue another KID? Would an indicative spread of costs be acceptable, with disclosure that these are subject to change?
Furthermore, it will be important to ensure that all manufacturers disclose the same types of costs using the same methodology (for example, currently methodologies used in relation to funds vary considerably to those used for structured products and methodologies also vary as between manufacturers).
Also, it is critical to ensure that manufacturers are not required to disclose costs information in the KID which relates to third party costs or other costs to which they do not have access (e.g. broker commissions, stamp duties, transaction taxes, foreign exchange costs, advice fees, distribution fees from third parties among others).
19: Do you agree with the costs and charges to be disclosed to investors as listed in table 12? If not please state your reasons, including describing any other cost or charges that should be included and the method of calculation.
Implicit costs embedded within the price of structured products are difficult to estimate beforehand, because the hedge is typically done once the subscription proceeds and implicit costs also vary as market conditions change. Risk/performance measures should already reflect implicit costs. For example, if a product has higher embedded implicit costs, the payoff parameters and the risk/performance measures will be less favourable. These costs are also difficult to explain to the client and may result in confusion (e.g. do they come on top of other costs (management fee) or are they included in these other costs (double counting must be avoided)?The separate cost elements can only be estimated and one should not attempt to calculate the costs of the basis of a theoretic ‘fair value’ cost.
The costs vary depending on the manufacturer’s business model, ability to handle risk, competence, efficiency and other factors.
20: Do you agree that a RIY or similar calculation method might be used for preparing ‘total aggregate cost’ figures?
-21: Are you aware of any other calculation methodologies for costs that should be considered by the ESAs?
Any calculation methodology should be in line with MiFID II and IMD II.22: Do you agree that implicit or explicit growth rates should be assumed for the purpose of estimating ‘total aggregate costs’? How might these be set, and should these assumptions be adjusted so as to be consistent with information included on the performance scenarios?
The EBF believes it is necessary to ensure full consistency between the assumptions to be adopted by the methodologies for calculating and representing both costs and risks.The EBF does not agree that implicit or explicit growth rates should be assumed for the purpose of estimating ‘total aggregate costs’ because these growth rates will differ per type of PRIIP and therefor the comparability of the PRIIPS will not be achieved. In fact may become misleading:
• In the context of structured products, in general, costs are not dependent on growth rates, unlike, for example, open ended products with variable fees which are affected by the length of time the product is held;
• It may be misleading to show upfront costs in such a way. If, for example, the market rises by 10% per year, the fee will look low;
• It would be necessary to include various assumptions which would be inappropriate for a 3 page KID.
23: How do you think implicit portfolio transaction costs should be taken into account, bearing in mind also possible methods for assessing implicit costs for structured products?
Regarding structured products: the EBF believes that implicit costs should not be taken into account explicitly because they are already considered in the payoff parameters (please see answer to Question 18).24: Do you have any views on possible assumptions that should be made, and how these might be calibrated or set?
Please see answer to question 1625: What do you think are the key challenges in standardising the format of cost information across different PRIIPs, e.g. funds, derivatives, life insurance contracts?
The EBF considers that too many assumptions make the calculations useless and lead to overload of information to the vast majority of the retail investors. Therefore we prefer option number 5 as it is simple and not too complicated for an average retail investor. We strongly oppose combining hypothetical performance scenarios with (partially) hypothetical costs. These raise the following question: How will each of them convert the presented values to his/her particular situation?For structured products the specification of the costs should be presented clear and easy, only a percentage of the nominal and what the impact is on the return. The examples are in most cases to difficult and will not provide a clear overview for the investor.
26: Do you have a marked preference or any objection for any of the presentational examples? If so, why? Please provide any alternative examples which you believe could be useful.
It depends how these categories are defined (in more detail). The breakdown should in any event be consistent with MIFID II and IMD II.27: In terms of a possible breakdown of costs, are you aware of cost structures for which a split between entry or exit costs, ongoing costs, and costs only paid in specific situations or under specific conditions, would not work?
EBF members are divided concerning their preference for either a summary risk indicator or for keeping market, credit and liquidity risks separate. The EBF is not able to express a single viewpoint on this question.28: How do you think contingent costs should be addressed when showing total aggregated costs?
Cumulative costs should be shown as both as a percentage and as an amount of the nominal amount invested.29: How do you think should cumulative costs be shown?
EBF members believe that there is too much irrelevant information. The investor should be aware of the costs that affect his decision (e.g. entry and exit fees, management fees, performance fees, etc.). The overall cost structure combined with the performance/risk information are sufficient to compare different products.The listed cost parameters could have an impact on the return of the product. The information should be simple and understandable, and the cost section should be balanced compared to the other sections of the KID. If all the costs listed in table 12 are to be addressed separately then this objective will be difficult to fulfil.
Indirect costs such as inflation, tax, missing dividends and return from alternative investment should not be addressed as costs at all. Implicit costs (i.e. costs embedded into the price of the product) should be addressed with the clear distinction that they are not deducted from the initial investment. Implicit costs are compensation to the manufacturer for the costs involved when structuring the note.
Dividends should not be shown as costs. The remaining dividends will appear in the return scenarios.
30: Do you have any views on the identity information that should be included?
The EBF believes that identity information should include International Securities Identification Number (ISIN) (where available) or an alphanumeric code adopted to identify insurance products, and the website of the PRIIP manufacturer.The RTS should not be very strict in this sense, and once this minimum information has been included, each entity should be free. We do not agree with the DP that this can create confusion for clients.
We agree that standardisation would be helpful. In respect of the manufacturer we believe that a website link would be the most efficient presentation method and should be sufficient.
We agree that the name of the authority should be provided and that manufacturers should have the option to include ISINs or similar identifiers where these are available at the date of publication of the KID.
31: Do you consider that the criteria set out in recital 18 are sufficiently clear, or would you see some merit in ESAs clarifying them further?
The EBF considers that further clarification is needed.For example, variables difficult to understand could be exactly the ones reducing the product risks (i.e. a barrier that stops potential losses); the inclusion of an alert in this case could warn the client from acquiring a product with a lower risk and force the entities to distribute products with higher risks in order to avoid this “label”.
32: Do you agree that principles on how a PRIIP might be assigned a ‘type’ will be needed, and do you have views on how these might be set?
In the EBF views the option leaving the classification to individual PRIIPs manufacturers does not seem a workable proposition, because this would create uncertainties and would not enhance clarity for the investor, which is the most important driver for the KID implementation.Legal classification could be a good starting point. A risk classification is not appropriate as these are described in other section of the KID, it will be reiterative and an unnecessary due to the reduced size of the kid.
It is important to clarify that PRIIPs regulation intends to regulate the information given to the client, but no try to impose/create new classification. Classifications used by entities to classify their products in order to develop suitability and appropriateness test should remain at the entire entity decision.
The EBF considers that further guidance should be provided to set up a standard. However, the typologies should not result in a protracted and burdensome legislative process.
33: Are you aware of classifications other than by legal type that you think should be considered?
According to EBF members, EUSIPA, EFAMA and SPIS classifications should also be considered.34: Do you agree that general principles and as necessary prescribed statements might be needed for completing this section of the KID?
The EBF agrees with that general principles and as necessary prescribed statements might be needed for completing this section of the KID.The way forward should be for general principles in completing the KID, therefore allowing manufacturers the flexibility to express features correctly e.g. similar to a product summary. Prescribed statements should be kept to a minimum as these will not necessarily reflect the product, and will require a product summary in addition to be issued to the consumer.
35: Are you aware of other measures that might be taken to improve the quality of the section from the perspective of the retail investor?
In this regard, the EBF would suggest having an explanation on how compute the payoff (with formulas and/or instructions) and, if necessary, providing an example with actual numbers/picture/graph.The summary information on the pay-off structure in the KID might be supported by a cross-reference to where more detailed information is provided (e.g. the Prospectus documentation or the contractual document).
36: Do you have views on the information PRIIPs manufacturers should provide on consumer types?
It would be relevant to have the different consumer types linked to the risk profile of the product (alignment with MiFID 2 and IMD2).Further discussions are needed on this point.
37: What is the key information that needs to be given to the retail investor on insurance benefits, and how should this be presented?
The EBF suggests to adopt a qualitative/narrative description integrated by a reference to the relevant section of the contractual documentation.38: Are you aware of PRIIPs where the term may not be readily described, or where there are other issues?
The EBF is aware of the following types of PRIIPs where the term may not be readily described:• Insurance products related, to the whole life;
• Some investment fund whose investment strategy permits an ongoing offer without any term;
• The open-ended certificates.
There are PRIIPS where terms may be more complex to describe.
For example:
• Auto-callable (kick-out) structures where there is a scheduled maturity date, but which can automatically mature prior to the schedules date upon certain conditions. These types of structure are readily available to retail investors.
• For convertible bonds, guidance would be required on who should manufacture the KID. Would this be the lead underwriter?
• There would be additional complexity when having to describe US and European options as features vary, for example US options can be exercised at any time, whereas European options can only be exercised at the expiration date.
39: Are you aware of specific challenges arising for specific PRIIPs in completing this section?
The EBF believes it is useful to develop some guidance on the criteria for completing this section, including examples, and to admit references to the relevant section of the prospectus or of the contractual documentation.In the absence of investor compensation or guarantee scheme foreseen, it should be possible for the PRIIPS manufacturer to explain how the products is protected against insolvency by e.g. the specific product set-up.
40: Are you aware of specific challenges arising for specific PRIIPs in completing this section?
The EBF believes it is necessary to develop clarifications about the content of the information included in this section, which should, in any case, be limited to the PRIIP itself (in other words its functioning) and should avoid potential options related to the way it is offered.41: Are you aware of specific challenges arising for specific PRIIPs in completing this section?
For PRIIPs where the manufacturer is different from distributors it should be clarified that complaints related to the product or the KID involve the PRIIP manufacturer while those related to the selling involve distributors. In any case the information within KID should be generic information and include a reference to where further information can be found is allowed.The only way the ‘how do I complain’ information can work is if the KID states that the consumer should refer to the Distributor / Adviser in the first instance.
A manufacturer may have their product distributed via a number of organisations or channels (e.g. platforms) and therefore could not be specific on the complaint route.
42: Do you agree that this section should link to a webpage of the manufacturer?
The EBF agrees that this section should link to a webpage of the manufacturer. We also suggest that it should also contain a list of the documents not subject to a compulsory publication on the internet site, but which the investor is entitled to request free of charge.43: Do you agree with the assessment of when PRIIPs might be concerned by article 6(3)?
The EBF agrees with the assessment of when PRIIPs might be concerned by article 6(3)44: In your market, taking into account the list of criteria in the above section, what products would be concerned by article 6(2a)? What market share do these represent?
-45: Please provide sufficient information about these products to illustrate why they would be concerned?
Unit-linked life insurance contracts and hybrid life insurance contracts would be specifically concerned.46: Do you have views on how you think the KID should be adapted for article 6(3) products, taking into account the options outlined by the ESAs?
Guidance would be required for Exchange Traded Derivatives, for example, where there may be different strike prices, and if this would require one or more document for each strike.47: How do you consider that the product manufacturer should meet the requirements to describe and detail the investment options available?
Cross references to other products documentation should be foreseen i.e. a KID pertaining to each investment option.48: Are you aware of further challenges that should be taken into account?
The EBF believes that the ESAs must clarify whether unit-linked life insurance contracts and hybrid life insurance contracts are intended to be covered by the relevant rule here.Members have expressed concern that the Belgian risk label might be confusing the investors to a certain extent. In particular the double class indicator might be misleading in that sense that the product is not both a B and a D type (for example) but either a B or a D. Showing both B and D might suggest the product is actually a C, which obviously isn’t the case.
49: Do you agree with the measures outlined for periodic review, revision and republication of the KID where ‘material’ changes are found?
Since the KID has been designed as pre-contractual information the issuance/offering process for specific types of PRIIPs must be taken into account. Therefore for continuous PRIIPs like UCITS the EBF agrees with the measures outlines for periodic review, revision and republication of the KID where ‘material’ changes are found. However, for PRIIPs offered in a non-continuous manner the EBF believes it is not appropriate.Nevertheless further guidelines are needed in order to clarify what is considered to be a ‘material’ change.
Some other comments regarding to review, revision and republication of the KID:
(i) In accordance with the Recital 12 of the Regulation, the update obligations shall apply only when “the PRIIP is traded on a secondary market”. Consequently, Level 2 of the Regulation must clearly exclude non-tradable products from the scope of this obligation.
However, the DP considers the potential sale to the issuer as a “secondary market” and thus, subjects that situation to the update obligation (point 7.1). EBF members cannot agree with that. An updated KID must be provided when a secondary market exists to ensure that potential retail buyers are aware of the nature and risk of the structured investment products (pre-trade information), but not to inform the actual owner about the potential risk and costs that may be applicable in the case of an early redemption (i.e. if the product is sold to the issuer), as they were already included in the KIID received by the client at the acquisition of the product.
Update obligations for PRIIPs that are not traded in a “secondary market” could be understandable only in case of Funds products where changes in the investment policy may affect to the investment key features and may imply risks that could not be assessed by clients in the purchase of the product.
The question also remains how to treat bonds (structured notes) on a secondary market. First of all the secondary market for bonds cannot be guaranteed (a bond can be liquid now, but untradeable at a later moment). It is not clear if the secondary bonds fall under the exception of ‘no secondary market’ or not.
(ii) The conditions and the material changes that imply that KID will be reviewed should be defined carefully. These definitions should not be restrictive in order to avoid unnecessary administrative costs e.g. as secondary market price of a bond can change every minute, it cannot be the regulator’s intention to change a KID with every change in price.
It is necessary to consider the impact that other regulations may have on the PRIIP in question. For example, if cases where the PRIIP is subject to de prospectus directive, an update on the prospectus should not overlap with a requirement to update the KID. In case that KID is updated if it is affected by a materially important change, a periodical review would not be necessary, as KID will always be updated.
50: Where a PRIIP is being sold or traded on a secondary market, do you foresee particular challenges in keeping the KID up-to-date?
The EBF identified some challenges in keeping the KID up-to date.The KID provider does not know the identity of potential investors that may buy the product in the secondary market and cannot send or personally provide with the updated KID to them. Consequently, the only practicable way to communicate the update of the KID shall be the publication of a new KID on the manufacturer’s webpage. Its obligation shall consist only in uploading the new KID to the web so every investor interested in the product can access to the last version.
Indeed, depending on the scope of other information points in the KID, e.g. costs on non-continuous offers, the drawing up of a reviewed KID could take place on the first day of listing on a secondary marketplace. Costs could be included in the primary market price but not, or different, in the secondary market price. Some products (for example constant leverage certificate) are very volatile, e.g. substantial intraday price fluctuations, which would render updating the KID daily.
As far as the secondary market is concerned, it is the EBF understanding that the KID must be updated/reviewed only in a situation where manufacturer/issuer ‘facilitates the secondary market’ on which the retail investor can still buy/sell such a product. In a situation where there is no interference of the manufacturer, the product didn’t reach the maturity and the retail investor sells the PRIIP to another investor we understand that the KID doesn’t need to be updated by the manufacturer/issuer.
Many Structured Products are available for purchase for a limited period following their initial issuance. After this period ends, they can be redeemed or held to maturity. As the KID is intended to inform purchase decisions, we believe it should only need updating during the period in which purchases are possible. During this period, it should be updated in response to material changes in market conditions. A definition of materiality is clearly required; we would suggest that updates are required if the purchase price has moved by more than 5% from the level on which the current KID was based.
We see a potential challenge with regard to the secondary bonds (e.g. structured notes) market. The product manufacturer (issuer) is responsible for updating the KID. If for secondary bonds a KID is needed, then the entity selling/offering bonds from different issuers might have a huge problem with receiving the KIDs from other issuers and creating a KID by the ‘selling/offering’ entity for each every secondary bond doesn’t seem to be an appropriate and workable option either…and other way around is this same problem (if the ‘selling/offering’ entity is also an issuer, how should this entity know to whom the updated KID must be sent? The issuer-entity doesn’t know all the intermediaries in between who sell the bonds to their clients).
51: Where a PRIIP is offering a wide range of investment options, do you foresee any particular challenges in keeping the KID up-to-date?
Yes, for example insurance products that holds a lot of volatile products (like mentioned in the answer to question no.51).52: Are there circumstances where an active communication model should be provided?
This is not the case for UCITS today, nor should it be for PRIIPs. We are the opinion that a passive communication model should be applicable.The EBF notes that the intention of the Regulation and the KID is to give the consumer ample relevant information to make an informed decision before purchasing an investment product that falls within the scope of the Regulation. With this in mind it is important to avoid a continuous flow of information towards a client who already purchased the PRIIP. Instead, we suggest that the manufacturer publishes, on its website, the up-to-date version of the KID. This regularly reviewed and revised KID would have to be made available by the product manufacturer on its website as long as the investment product is being offered to retail investors.
Furthermore it would not be reasonable/practicable to require manufacturers to actively inform investors of changes to the KID as they typically have no direct relations with the end investor. Even the distributor may not have a continuing relationship with the end investor after the initial sale of the product. Provided the initial KID states where updates to the KID will be published (e.g. on a specified website) this should be sufficient.
53: Do you agree that Recital 83 of the MiFID II might be used as a model for technical standards on the timing of the delivery of the KID?
The EBF agree that Recital 83 of the MiFID II might be used as a model for technical standards on the timing of the delivery of the KID. We agree in taking into account the criteria defined in Recital 83 subject to our considerations explained in question 54.54: Are you aware of any other criteria or details that might be taken into account?
EBF members foresee difficulties with providing the KID when the order is handled via the telephone. Besides this, EBF members are of the opinion that there should be no discrepancy between the interpretation of the requirement to provide a KID ‘in good time’ and the similar requirement under UCITS.Furthermore it should be clear that a KID shall only be required for investment products that are issued after the Regulation becomes effective. Application of the requirement of a KID for investment products that have been issued in the past, would result in a burdensome legacy that could potentially affect the secondary market of existing investment products.
The following considerations should be taken into account:
- A general timeframe that works as a safe harbour for distributors irrespectively of the experience or knowledge of the investor must be included.
- Experience shall include not only same products, but also in similar ones (i.e. structured deposit linked to share and structured bond linked to shares).
It must not be considered as a mandatory timeframe between the date the KID is made available for the investor and the purchase date: the distributor must provide the investor with the KID and the investor must have time until d+X to purchase the product, but if the investor does not need that time or does not want no wait until the end, it may be able to acquire the product immediately.
It is common practice in High Net Worth markets for Structured Products to be marketed via private placement and on indicative terms. This avoids the cost of pre-hedging the structure. The product is marketed on a “worst-case” basis, with final terms confirmed after launch. The PRIIPs regime should allow for this approach to be taken to the KID, i.e. for an indicative KID to be distributed for consideration by potential investors, with a final version distributed within [5] days of issuance.
55: Do you think that the ESAs should aim to develop one or more overall templates for the KID?
The EBF would welcome ESAs initiatives to develop one or more overall templates for the KID. It would allow investors to have a recognizable and homogeneous overview in order to compare products. It would make sure that everyone uses exactly the same approach and would therefore minimise the potential discrepancies.There are many obligations that are still very open and theoretical even in the DP (i.e. non-technical language, (underlying assets) in which retail investors do not commonly invest – rec18) and may be implemented in different ways by firms and interpreted in many various manners by supervisors and courts. In our opinion accurate and complete templates/examples would be the only way to be able to (i) improve the quality and comparability of information provided to retail investor regarding to PRIIPs; (ii) improve legal certainty for firms.
However, some flexibility should be allowed/considered to accommodate special cases.
If templates are to be used, this should only act as guidance for what needs to be included on a section by section basis in order to introduce a consistent overall format for consumers, and allow for flexibility for manufactures. As stated in question 34, prescribed language should be avoided.
56: Do you think the KID should be adjusted to reflect the impact of regular payment options (on costs, performance, risk) where these are offered? If so, how?
Regular payment options should already be taken into account in the performance/risk measures, especially if the above mentioned “Histogram” approach is used (where the values shown are annualized returns, gross of taxes, costs, etc.).Only in case that the information related to the summary risk indicator, performance scenarios and cost information would be materially different for regular payment versus single payment arrangements, a separate KID might be considered.