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PRIIPs – Regulation for retail investor protection imposes strong requirements

“What are the risks and what could I get in return?” “What are the costs?” “How long should I hold the investment?”

 

The PRIIPs-regulation calls for short, simple and compact answers to complex questions about potential future developments.

 

The Regulation (EU) No 1286/2014 (PRIIPs regulation) aims to strengthen the protection of retail investors by improving comparability of investment options and increasing cost transparency for all investment products in scope.

 

To this end, manufacturers of financial products are obliged to provide the investors with Key Information Documents (KIDs) for all products in scope. These KIDs should address the following points:

  • Description of the financial product and the associated risks (including default risk of the manufacturer) in “clear and understandable language”
  • Classification of those retail investors to which the product is marketed
  • Summary risk indicator which provides a rating for the product’s risk on a scale of 1 (lowest risk) to 7 (highest risk)
  • Scenario calculations illustrating the product’s performance under positive, moderate, negative and stressed market conditions
  • Disclosure of all costs associated with the product, both in terms of units of currency as well as reduction in yield

Scope and consequences of non-compliance

A large variety of financial products are considered as Packaged Retail Insurance-based and Investment Products (PRIIPs) in the regulatory sense and are thus subject to this regulation. The scope is intentionally very wide and only delimited by explicit exceptions. Among the products in scope are

  • Structured or derivative financial products (e.g. options, derivatives, certificates, leveraged forwards)
  • Products by which the investor is exposed to a risk of loss exceeding the initial investment
  • Open and closed-end investment funds (UCITS and alternative investment funds)
  • Insurance-based investment products, e.g. with-profit life-insurance contracts or multiple investment option (MOP) PRIIPs
  • Financial products issued by special purpose vehicles

 

The PRIIP manufacturer must, prior to the investment, provide a potential investor with a current KID for the PRIIP, as long as the PRIIP is directly distributed or traded on a secondary market, even if the manufacturer does not have any influence on that secondary market (i.e. if the manufacturer does not act as market maker). Non-compliance with this regulation may result – in addition to any implicit liability resulting from incomplete or insufficient disclosure of risk or costs – in a penalty (see article 24 (2) e) of the regulation).

The timeline

Now that the second draft of the RTS has been accepted, the detailed requirements and time line of this regulation are finalized: the first application date of the regulation is January 1st, 2018. Undertakings for Common investments in Transferable Securities (UCITS) and some alternative investment funds (AIFs) are subject to an exception and have to apply this regulation starting on December 31st, 2019.

What are the challenges?

The quantitative aspects of the KID, in particular the summary risk indicator and the scenario calculations, are subject to detailed guidance contained in the level 2 documents (Regulatory Technical Standards – RTS). In addition to the first and second level regulatory texts, several national authorities have issued guidance on the interpretation and implementation of this regulation. For example, the FCA has added the PRIIPs regulation to their handbook (and expects the regulation to be converted into UK law, following the UK leaving the EU).

 

Fulfilling this guidance poses significant challenges to processes, data management and valuation methods and requires both a wide overview of the market and detailed knowledge of regulation and valuation. Furthermore, the qualitative aspects of the KID (description of the PRIIP and the associated risks) are  intended to precisely match the PRIIP in question. For a large spectrum of products, managing the descriptions could require significant efforts.

Our support for your benefit

Our experienced experts can support you in all aspects of this regulation:

  • Benefit from our market overview to identify best-practice approaches and apply these to your individual portfolio
  • Let our experts analyze the impact of this regulation on your existing system landscape and processes to support your make-or-buy decision
  • Use our experience in valuation and process implementation to create and manage a bespoke in-house solution for PRIIP-KIDs generation
  • Validate your existing solution for PRIIPs, profiting from our tools and long-term expertise

 

For detailed information on our approach and to schedule an individual appointment with our experts, please contact us at +49 69 907370 (German office) or +44 20 7776-1000 (UK office) or by mail to info@d-fine.de, keyword “PRIIPs”.