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More homework from the FMA for those offering investment advice

Investment advisers – about 600 in total – are being asked for comment on an FMA consultation paper proposing guidelines on the standard and reasonableness of the advice they give on IPOs and listed equities.

Thursday, July 7th 2022, 7:33AM 1 Comment

by Jenni McManus

The turnaround is tight: the regulator has published a set of nine questions and a feedback form and has asked for responses by 5 August.

The FMA’s default position is that advisers will generally need to access or undertake research to satisfy the “reasonable grounds” requirement in Code Standard 3 of the Code of Professional Conduct for Financial Advisers.

The standard requires those giving regulated financial advice to retail clients to ensure it is suitable in nature and scope. The adviser must also demonstrate the reasonable grounds upon which this advice has been given and, in most cases, this will involve expert research.

IPOs and listed equity securities have been chosen because, the FMA says, research of them can be difficult to find, especially on small-cap companies.

Katrina Shanks, CEO of Financial Advice New Zealand (FANZ), says guidance notes from the FMA are “extremely helpful”.

“The guidelines are a very important tool in the regulatory toolbox to provide guidance outside of what is structured within the legislation and regulations,” Shanks says. But she acknowledges the timeframe to respond is short, especially for an industry that’s focused on compliance with a full licensing regime by next March “and all the events that are happening in the sector at the moment”.

Shanks says FANZ will run a consultation process around the guidelines and receive feedback from members and the FANZ advisory committees. “It is important to submit and that all stakeholders have the ability to comment.”

The investment advice community is highly skilled and experienced, and many have had successful careers in other parts of the financial sector before becoming advisers, Shanks said. In general, it was important for all advisers to understand their knowledge base and their competence level when giving advice to ensure retail clients were given advice that suited their needs and circumstances.

The FMA says it doesn’t want to discourage those giving opinions or recommendations without the backing of expert research as this could lead to New Zealanders having less access to advice and result in lower levels of investment and liquidity in small-cap stocks. “However, we also want to ensure there are reasonable grounds for financial advice, including advice given without expert research,” it says.

“Expert research” for the FMA means “research published by individuals or teams with the necessary knowledge, experience and relationships to understand and model the risks, drivers, management and other critical aspects of IPOs and listed securities”. It might be done by institutions or an advisory firm’s own investment team.

“Reasonable grounds” means “the grounds that a prudent person engaged in the occupation of giving financial advice would consider appropriate in all the circumstances”. This adviser would need to consider strategy, underlying assumptions, any financial products covered by the advice and the client’s circumstances, including his or her financial situation, needs, goals and risk tolerance.

The FMA’s guidance does not prescribe the content of the research used to support the reasonable grounds requirement but it needs to be fit for purpose, in writing and document “to the standard that a financial advice professional would expect”.

Sometimes expert research might not be needed, it says. This would depend on the nature and scope of the advice and the circumstances, but the reasonableness test would still need to be met.

Tags: FMA

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Comments from our readers

On 13 July 2022 at 4:03 pm Murray Weatherston said:
Who decides what case studies should be used as examples?
I would have thought typical situations should be used - say 1 standard deviation from the mean of all cases - in FMA guidance documents.
This guidance is about IPOs and listed equities.
The first example is an investor who sells their house and puts all the money into a new startup microcap - or something like it. This must be a 12 sigma situation.
The second is about whether to takeup a rights issue or not. It covers 2 possibilities - taking up on one hand and not taking up and being diluted on the other. The case ignores the third usual option (which is increasingly becoming common as a default) of selling the rights.
Thank goodness I have escaped from this net!

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