The EU packaged retail and insurance-based investment products (PRIIPs) regulation is a regulatory behemoth overdue a reform. Since January 2018, it has required a manufacturer of a PRIIP to draw up a key investor document (KID) before a PRIIP is made available to retail investors. By harmonising and tightly prescribing the content of KIDs across the single market, EU-based retail investors should be both better protected and able to compare different financial products before investing, or so the theory goes.
This may work in theory, but does it work in practice? Writing in the Financial Times, the economist John Kay has argued that the PRIIPs disclosure regime is "a triumph of pseudoscience over common sense". Perhaps he is justified.
Firstly, the regulatory scope of a PRIIP remains unclear. Despite efforts of the joint European Supervisory Authorities to clarify the scope, certain relatively plain vanilla corporate bonds (with some caps/collars, conversion features or make-whole amounts calculated to a reference bond) are likely caught by the definition, even though it seems that the policy intent of the PRIIPs Regulation was not to catch corporate bonds. There is some evidence that the need for a KID may have reduced European issuance of retail bonds (though wholesale bonds can use appropriate selling restrictions to avoid the need for a KID).
Secondly, the contents requirement of a KID are at best complex for lawyers (some 50 pages of dense regulatory technical standards complemented by the joint ESAs questions and answers document) and at worst misleading for investors, with recent research conducted by Schroders leading them to claim that "the PRIIPs performance projections failed the Covid-19 test".
On 30 July 2020, HM Treasury confirmed that the UK will diverge from the EU PRIIPs Regulation, once the Brexit implementation period expires. Legislation will be brought forward in the short-term to amend the (on-shored) UK PRIIPs Regulation to: (i) enable the FCA to narrow the scope of PRIIPs via FCA guidance; (ii) amend the prescribed content of a KID to ensure misleading performance scenarios are not included; and (iii) extend the exemption from the requirement to publish a KID that applies to UCITS for a further five years. In the longer term, HM Treasury intends to conduct a more wholesale review of the disclosure regime for UK retail investors. This review will explore, for example, how to harmonise the PRIIPs regime with requirements set out in MiFID.
The EU is also looking to reform the PRIIPs regime, but this is highly controversial. Following a dispute between the European Commission and the joint European Supervisory Authorities over the extent to which the latter could reform the content requirements for a KID without exceeding their regulatory powers, they recently wrote to the European Commission confirming that they were unable to agree among themselves whether to endorse their joint report, proposing reforms to the regulatory technical standards. Meanwhile, the High Level Forum's recent report on the EU Capital Markets Union argues in favour of "targetted amendments to the PRIIPs Regulation to improve disclosure". It is unclear, though, if this will concern the scope of a PRIIP (in the same vein as the UK's reform) as well as the content of a KID.
This sets the scene for an interesting test-case in international regulatory competition. Will the UK be able to amend its statute book faster than the EU? Will the UK and the EU reach different substantive conclusions? Will "regulatory style" start to diverge (as argued by Sam Wood, CEO of the Prudential Regulatory Authority), perhaps with the UK moving to "principles" and the EU remaining with "rules"? How will market participants react to different regulatory requirements?
Market participants, who have long complained about the PRIIPs Regulation, will no doubt welcome the reforming intent, but for the while the jury is out. The PRIIPs Regulation does not contain an "equivalence" framework, but even if it did it seems that the EU and the UK are finding equivalence assessments challenging. This means that even if fund managers find it relatively easier to produce a KID for UK regulatory purposes, they will still need to produce an additional EU KID if they intend to offer certain financial products to retail investors in the EU as well as the UK. Even if UK regulation no longer requires that issuers of wholesale corporate bonds include a PRIIPs legend (ensuring that the offering is not made available to retail investors) in their prospectuses, it may make sense for issuers to maintain the legend for EU regulatory purposes. And while removing the PRIIPs barrier might be a necessary step to encouraging the development of a retail bond market in the UK, it is unlikely to be sufficient. Other obstacles, including the MiFID product governance requirements and the prospectus summary requirements, remain.
But what is clear is that the UK is no longer kidding about regulatory divergence.