You have to be KIDding

Transparency and disclosure have become ever more important principles for our regulatory authorities. But while few would argue that advisers and investors alike have not benefitted from regulation that requires investment companies to offer much more detailed information about charging structures and performance data, there is growing concern that the latest European Union initiatives on transparency could cause as many problems as they solve.

Last week, Anthony Townsend, chairman of the £1.3bn Finsbury Growth & Income investment company effectively told his shareholders that they should take his projections of future fund performance with a pinch of salt. It might seem bizarre for a fund to warn its investors that they might not receive the level of returns set out in official disclosures, but that’s essentially what Mr Townsend felt compelled to do.

Many advisers will already be aware of the problem. The EU’s Packaged Retail and Insurance-based Investment Products (Priips) rules require investment funds to publish key information documents (KIDs) setting out, among other things, projections for future returns. Many fund managers believe the assumptions and scenarios on which these projections must be based could prove to be woefully inaccurate, in which case investors may end up very disappointed.

Having pointed this out some time ago, investment companies have won the right from the Financial Conduct Authority to issue additional documentation alongside performance projections to provide further clarification; this is what Mr Townsend is now doing. Nevertheless, the underlying difficulty remains: regulation on disclosure introduced with investors’ best interests at heart may actually serve to mislead.

This is not the only issue with which investment companies are currently grappling. The regulation around KIDs requires funds to include the cost of borrowing in the charges declaration they make to investors; but since only investment companies are allowed to take on gearing – this isn’t an option for open-ended funds – the effect may be to create a picture of a sector that is uncompetitive on fees.

At Scottish Mortgage, for example, the ongoing charges figure declared to investors has risen from 0.44 per cent to 0.84 per cent because of the effect of taking gearing costs into account. At Monks investment trust, the figure has risen from 0.59 per cent to 0.86 per cent.

So what, you might say, given that these are genuine costs incurred by the fund – and thus borne by investors. The problem is that there is no room to declare the plus side of gearing in the charging comparisons – investment companies’ ability to take on borrowing, which boosts returns in a rising market, is a fundamental attraction of the industry. So adding gearing costs to charging disclosures without any opportunity to set out the benefits that may accrue from borrowing really tells only one side of the story.

Ultimately, these are examples of the law of unintended consequences. But while the regulation remains as it is, the responsibility falls on advisers to understand the implications of the rules and to communicate it effectively to their clients.

None of which is to suggest that more disclosure and transparency is a bad idea. But the more information that is made available, the more skill will be required to interpret it properly and make meaningful comparisons. Advisers will need to earn their salt.