FCA finds conflicts of interest in D2C platform 'best buy' lists


FCA paper on platform best buy lists

Direct-to-consumer (D2C) platforms favour affiliated funds and those that pay them greater commission rates when comprising best buy lists, FCA research has found.

In its ‘occasional paper’, Best buys and own brands: investment platforms’ recommendations of funds, the regulator sought to identify “potential conflicts of interest when creating these lists”.

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The report said: “Controlling for past performance, Morningstar analyst rankings, costs, and other variables, affiliated funds are significantly more likely to be added to the recommendation list than non-affiliated funds.

“Average model-implied addition probabilities, across the three platforms and the whole data sample, for affiliated funds are three times as large as for otherwise identical non-affiliated funds.

“At the same time, other things equal, affiliated funds are less likely to be deleted from recommendation lists than non-affiliated funds.

“We also find that this tendency to recommend affiliated funds has increased since regulatory changes have been introduced that prohibit commission-sharing with funds.”

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The report used “non-public” data from three platforms for the period between 2006 and 2015, comprising a share of more than 50% of assets under administration of all UK platforms.

Authored in conjunction with academics from the universities of Oxford and Connecticut, the report also found being included on a best buy lists “considerably” impacts inflows.

“[Best buy list funds experience] an average inflow of £5.9m, equating to 1% of the total assets under management of the fund (and not just those invested through the platform),” the report said.

However, it added that “investors appear to discount ‘recommendations’ of affiliated funds”.

The report also found that while best buy list funds outperform non-best buy list funds overall, affiliated funds on best buy lists do not.

The FCA said: “A portfolio comprising all funds recommended by platforms delivered average net returns in excess of Morningstar category benchmarks of 0.08% per year.

“In contrast, non-recommended funds available on the same platform underperform the benchmarks by 0.86% per year.

“This makes the excess returns of recommended funds a statistically significant 0.94% per annum higher than the excess returns obtained by non-recommended funds available via the same platform.

“These performance differences do not hold for the affiliated recommended funds, which perform no better than other available funds in the same Morningstar category (and available via the same platform).”

Commenting on the findings Mark Dampier, research director at Hargreaves Lansdown, said: “Recommended funds are giving investors the dual benefits of better performance and lower costs, evidencing how investment research teams help people to make good decisions and more of their hard earned money.

“However not all batteries, washing up liquids or fund managers perform the same, and likewise some best buy lists are better than others.”

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According to the FCA, D2C platforms account for £500bn of the £1.2bn assets managed in the UK fund industry, up from £100bn in 2008.

Unlike with a consultation paper, the FCA is not seeking to implement regulatory change with its findings in the latest report. It is instead aimed at helping the regulator to “encourage debate on all aspects of financial regulation and to create rigorous evidence to support its decision-making”.

About the author

Mike joined Investment Week in May 2017 as an asset management correspondent, also covering the regulatory beat.

Prior to joining the team he worked at HFMWeek, covering the global hedge fund industry.

 

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