Financial Services and Markets Bill

Baroness Bowles of Berkhamsted Excerpts

Report stage
Tuesday 6th June 2023 Lords Chamber

I ask my noble friend whether she can at least bring back a definition for Third Reading if she does not consider that my amendment offers a reasonable solution, for “having regard to” is a lot less onerous than requiring “alignment with”. I beg to move.

[Baroness Bowles of Berkhamsted (LD)]

My Lords, I have two amendments in this group. Amendment 9 is similar to one I tabled in Committee and is intended to focus the secondary objective on the advancement of the UK economy through fair and efficient operation of financial markets.

It still concerns me that the Government’s wording can be interpreted as more about general profitability of financial services, rather than the positive nature of their operation on the economy. We got into a bit of a tangle about this in Committee when the Minister focused on how financial services made money out of clients. I hope the Minister can now appreciate the nuance and at least confirm that the primary intention of the secondary objective is benefit to the economy that is served by financial services, and not maximum income generation from financial services to the extent that it is of detriment to the economy.

A great deal of attention has gone into asking what regulatory issues have risked competitiveness. A key example is how the London market lost out in new insurance products when the regulator was too slow. Criticism has been levied about delays in SMCR approval of new staff. My Amendment 115 concerns an alarming example of harm to the economy and proposes a solution through a specific legislative amendment. It aims to fix a competitiveness and investment issue with listed closed-ended investment funds. As such, I declare my interests as both a director of the London Stock Exchange plc and a director of Valloop Holdings Ltd, which has potential interest in such listings.

For the last 14 months, a dire situation has been seriously affecting the UK economy and should have been resolved but has not. It has its origins in a face-value interpretation of an EU regulation that is part of the MiFID family, relating to how ongoing charges should be presented in collective investment schemes that invest in other funds and a desire to create a consistent cost disclosure framework in a somewhat inconsistent EU framework.

As part of reviewing what should be included in cost redisclosures, the FCA asked the Investment Association —the principal trade body for the asset management industry in the UK—to provide new guidance. That guidance now requires that when a fund holds shares in listed closed-ended investment funds—also known as investment trusts—it should aggregate with the investing fund’s own charges all the underlying running costs that are incurred within the investment trust, including the listing and corporate costs, in the same way as it would were it to hold units in an unlisted open-ended fund. The IA took this line because the investment trust is regarded as a collective investment undertaking, and the EU regulation refers to collective investment undertakings.

At first sight, the cost disclosure might look reasonable, but it ignores the nature of investment trusts, which have publicly traded shares with a price set by the market: an investment trust is essentially like any other publicly traded company from an investment perspective. If a fund invests in the ordinary shares of a listed commercial company, the internal costs of that commercial company do not have to be shown in aggregated charges. For both listed commercial companies and listed investment trust companies, everyday running costs are disclosed in accounts, reflected in profit and ultimately in the share price, which embodies investors’ assessment of the company, including its underlying costs. However, the IA guidance instead equates investment trusts with open-ended funds, requiring internal running costs incurred at the investee investment trust level to be aggregated as a cost, setting aside the fact that, unlike with units of open-ended funds, investors have already factored such changes into the price that they are prepared to pay for the shares of the investment. Thus, for example, directors’ fees of an investment trust aggregate as an ongoing charge of the investing fund; the directors’ fees of a commercial company that is similarly invested in do not have to be aggregated. Likewise, various other corporate costs receive dissimilar treatment.

Therefore, that is an unfairness, but why does it matter beyond being anti-competitive, as if that is not enough? It matters because those corporate costs being in effect almost duplicated and put under the headline of “ongoing charges” suddenly elevated the ongoing charges of the fund investing into the investment trust, sometimes to levels where they hit cost ceilings put in place by various pension funds and other collective investment funds, or simply made fund managers cringe when the headline of accumulated charges suddenly looked more expensive and people started to think that they were doing something wrong. Hence, there became a disincentive to invest in investment trusts to avoid these unexpected changes, questions about them or hitting cost ceilings. A great deal of investment choice follows the headline and not deeper analysis, which separates and explains the varying nature of costs.

To make the point again, an ordinary listed commercial company, such as SEGRO plc, which invests in property, might now be deemed investable while the exact same property investments with the exact same costs, held for example by the investment trust Tritax Big Box fund, might be deemed not investable because one does not have to have its corporate costs regarded as ongoing charges and the other does.

I do not think it is a coincidence that, since the new guidance, there has been no real asset IPO and just a couple of small equity IPOs of investment trusts. At a stroke, something that has at times been regarded as a jewel in the London funding ecosystem—an expanding sector of listed funds investing into long term illiquid alternative assets such as renewable energy and other infrastructure—has been abandoned.

I just gave an example of two companies investing in property, with no intention to impugn either, but there are some sectors of the economy where using an investment trust to raise funds is the only route to capital—notably for new and innovative business in the environmental and social sectors: businesses such as HydrogenOne, which is leading investment into UK’s alternative energy, directly linked with our net-zero commitments.

It is also the case that investment trust exposures are typically more diversified and real than exposures via commercial corporates, which investors appreciate but now cannot access as they have been dropped from portfolios. This is a real loss to the UK economy that has been going on for 14 months. We have all read the news about companies switching listing from London for valuation reasons—and that is another story—but here it is not switching, it is simply regulatory asphyxiation.

Both the FCA and the Investment Association know and understand the problem. The IA thinks it should be fixed and has publicly written about it to the FCA. On the face of it, given that inherited EU legislation is the mix, I think it is more up to government and the FCA to fix it than the IA, even though it came up with the guidance. In any event, you go up the power chain to fix a disaster. It is also worth noting that there is no actual legislative EU definition of collective investment undertaking, only ESMA guidance, from which the FCA could distance itself, if only for this specific purpose.

The Government have been informed of this issue and, while dreaming up ways to help more investment in the productive economy is important for the Chancellor, all he has to do here is stop this extinction event. It is not about undermining transparency; it is about understanding what is and is not like-for-like. There are those who have been getting around it in some EU countries by saying that for cost disclosure purposes, an investment trust is a company not a fund, but investment trusts are not mainstream in EU countries; they use other channels for investment, so the issue is not really pursued.

The UK situation now is that we have essentially just clarified our law using definitions originating in soon-to-be-discarded PRHPs and non-legislative EU guidance, front-running a wider-reaching FCA review and achieving nothing but harm. My amendment shows one way to fix it by amending the regulation so that all listed companies are treated the same for the assessment of accumulated ongoing charges. Investment trusts would then not be discriminated against by being improperly lumped together with open-ended funds whose value is not set through share price, nor by having a cost label attached, compared with competing commercial companies or funds in other countries, and the UK businesses reliant on the investment trust route could again raise the capital they need.

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[The Parliamentary Secretary, HM Treasury (Baroness Penn) (Con)]

My Lords, the new secondary growth and competitiveness objectives in the Bill will ensure that the regulators can act to facilitate medium to long-term growth and competitiveness for the first time, but a focus on competitiveness and long-term growth is not new. When the UK was part of the European Union and financial services legislation was negotiated in Brussels, UK Ministers went to great efforts to ensure that EU regulations appropriately considered the impact that regulation could have on economic growth and on the competitiveness of our financial services sector.

Now that we have left the EU, and as the regulators take on responsibility for setting new rules as we repeal retained EU law, it is right that their objectives reflect the financial services sector’s critical role in supporting the wider economy. We must ensure that growth and competitiveness can continue to be properly considered within a robust regulatory framework. As the noble Lord opposite said, a secondary competitiveness objective strikes the right balance. It ensures that the regulators have due regard to growth and competitiveness while maintaining their primary focus on their existing objectives. That is why the Government strongly reject Amendment 10, tabled by the noble Baroness, Lady Bennett of Manor Castle, which seeks to remove the secondary objectives from the Bill.

Turning to Amendment 9 from the noble Baroness, Lady Bowles of Berkhamsted, the Government agree that the UK financial services sector is not just an industry in its own right but an engine of growth for the wider economy. The current drafting of the Bill seeks to reflect that but also recognises that the scope of the regulators’ responsibilities relates to the markets they regulate—the financial services sector—so it is growth of the wider economy and of the financial services sector, but not at the expense of the wider economy. I hope I can reassure her on that point.

On Amendment 115, also from the noble Baroness, Lady Bowles, as noble Lords know, the Bill repeals retained EU law in financial services, including the MiFID framework. Detailed firm-facing requirements, such as those that this amendment seeks to amend, are likely to become the responsibility of the FCA. As such, it will be for the FCA to determine whether such rules are appropriate. When doing so, the FCA will have to consider whether rules are in line with its statutory objectives, including the new secondary growth and competitiveness objective.

Parliament will be able to scrutinise any rules that the regulators make, including pressing them on the effectiveness of their rules, and how they deliver against their objectives. Industry will also be able to make representations to the regulators where they feel that their rules are not having their intended effect or are placing disproportionate burdens on firms. I hope the noble Baroness is therefore reassured that the appropriate mechanisms are in place for considering the issues that she has raised via that amendment.

[Baroness Bowles of Berkhamsted (LD)]

I understand that there are and will be mechanisms in place, but the point that I was trying to make—and the reason that I expounded at length on how we got into this mess—is that it is urgent action that is necessary. This is not something that waits for this great wheel of change that we are bringing in through this Bill to come along. This is something that should be on people’s desks tomorrow; it should have been on people’s desks a year ago. There will not be ongoing investments trusts if it is not fixed now.

[Baroness Penn (Con)]

I understand the case that the noble Baroness makes, but it is not for an amendment to this Bill but for regulator rules to address the issue that she raises.

I turn to Amendments 8A and 9A from my noble friend Lord Trenchard, which seek to remove the requirement for the FCA and the PRA to align with relevant international standards when facilitating the new secondary objectives and instead have regard to these standards. As we have heard, international standards are set by standard setting bodies, such as the Basel Committee on Banking Supervision. These standards are typically endorsed at political level through international fora such as the G7 and G20 but, given the need to enable implementation across multiple jurisdictions, they may not be specifically calibrated to the law or market of individual members. It is then for national Governments and regulators to decide how best to implement these standards in their jurisdictions. This includes considering which international standards are pertinent to the regulatory activity being undertaken and are therefore relevant.

Since we left the EU, the regulators have been generally responsible for making the judgment on how best to align with relevant standards when making detailed rules that apply to firms. This approach was taken in the Financial Services Act 2021, in relation to the UK’s approach to the implementation of Basel standards for bank regulation and the FCA’s implementation of the UK’s investment firms prudential regime. It was also reflected in the overarching approach set out in the two consultations as part of the future regulatory framework review.

Part of the regulators’ judgment involves considering how best to advance their statutory objectives. Following this Bill, this will include the new secondary competitiveness and growth objectives. The current drafting therefore provides sufficient flexibility for the regulators to tailor international standards appropriately to UK markets to facilitate growth and international competitiveness, while demonstrating the Government’s ongoing commitment for the UK to remain a global leader in promoting high international standards—which, as we have heard, the UK has often played a key part in developing. The Government consider that this drafting helps maintain the UK’s reputation as a global financial centre.

I turn finally to Amendment 112 from the noble Baroness, Lady Bennett. The Government consider the financial services sector to be of vital importance to the UK economy. The latest figures from industry reveal that financial and related professional services employ approximately 2.5 million people across the UK, with around two-thirds of those jobs being outside London. Together, these jobs account for an estimated 12% of the UK’s economy.

The financial services sector also makes a significant tax contribution, which amounted to more than £75 billion in 2019-20—more than a tenth of total UK tax receipts—and helps fund vital public services. It is not for the Government to determine the optimum size of the UK financial services sector, but in many of the areas that the noble Baroness calls for reporting on, the information would be largely duplicative of work already published by the Government, public sector bodies or other industry groups.

For example, the State of the Sector report, which was co-authored by the City of London Corporation and first published last year, covers talent, innovation, the wider financial services ecosystem, and international developments and comparisons. The Government will publish a second iteration of the report later this year. The Financial Stability Report—