ASIC reviews culture, conduct and conflicts of interest in vertically integrated funds management businesses

ASIC has today released a report outlining its findings of an extensive review of the conflicts management practices in vertically integrated businesses in the funds management industry.

ASIC was specifically concerned about those entities with a vertically integrated business, that is, those entities which operate at least two of funds management, responsible entity, superannuation trustee, platform structure (IDPS and IDPS-like structure), investment administration and custody business. Our view is that these models may create more opportunity for conflict to arise. The review did not address the deposit taking, insurance, financial advice and product manufacturing businesses.

The two-stage review involved 12 significant participants in the funds management industry. It was informed by our other work on conduct risk and culture, for example, in the investment banking space.

ASIC is encouraged that many organisations appear to take their conflicts management obligations seriously, with detailed and tailored policies that appear to be embedded in business practices from boards and senior management, cascading down to business units.

Entities were able to demonstrate a commitment to reviewing and updating the policy, communication and training.

However, in some organisations reviewed, it appears that the conflicts policy is one of many policies which has been prepared to satisfy a regulatory requirement rather than seeking to properly identify and address conflicts and embed requirements to address conflicts into business practices.

ASIC Commissioner Greg Tanzer said, ‘We are pleased that ASIC has been able to contribute to the international focus on culture within organisations with this, and previous reviews, revealing good examples of companies committed to conflicts management.

‘However, it is clear that some organisations adopt a generic template conflicts policy, with no demonstrated commitment to the conflicts management in the organisation. We saw some very real examples where the conflict in question was so fundamental that complete avoidance was necessary – the conflict could simply not be managed internally and disclosed externally.

‘We consider that a failure to identify and manage conflicts of interest may lead to significant breaches of the Corporations Act and fiduciary duties, and result in reputational and financial damage’, Mr Tanzer said.

ASIC Chairman, Greg Medcraft said, ‘As our work on culture has indicated, the ‘tone’, being the attitude and commitment to conflicts management, must come from the ‘top’ and needs to be appropriately cascaded down the organisation through business practices, communication and accountability, as well as appropriate governance and remuneration.

‘ASIC encourages all Australian financial services licence holders to carefully review the findings of this report, whatever their market sector, to assess their own approach to conflicts management and broader cultural issues’, Mr Medcraft said.

Going forward, ASIC will continue its focus on culture and conflicts management across the financial services industry and will work with individual participants to address any shortcomings identified in this review.

Download

Report 474, Culture, conduct and conflicts of interest in vertically integrated businesses in the funds-management industry

ASIC issues guidance on marketplace lending

ASIC today released guidance to help providers of marketplace (also known as ‘peer-to-peer’) lending products, including information about legal obligations.

ASIC Commissioner John Price said ‘We want to help innovative start-ups understand the regulatory framework they are operating under.’

‘Marketplace lending is a new innovative product and this information sheet is an example of how ASIC’s innovation hub is helping innovative businesses understand their regulatory obligations to support them to grow and develop in Australia,’ he said.

The information sheet describes the current regulatory regime and we will review the guidance in light of any future changes in the law or business structures. The information sheet also includes good practice strategies that marketplace lenders may consider adopting.

‘Adopting some of these good practices can help investors understand the product and risks and build community trust and confidence in marketplace lending more generally,’ Commissioner Price said.

A number of marketplace lending entities were consulted in preparing the information sheet. ASIC thanks these entities for their participation in the consultation.

Fintech start-ups looking to provide marketplace lending are encouraged to use this information sheet to help them understand current regulatory requirements. ASIC also encourages fintech start-ups to apply for help from the Innovation Hub, if they meet eligibility criteria. Information about the hub, including eligibility criteria for help, is available on ASIC’s Innovation Hub.

Download

Information Sheet 213 – Providers of Marketplace Lending Products  

Background

Marketplace lending matches people who have money to invest with people who are looking for a loan. These arrangements commonly involve the use of an online platform, such as a website.

ASIC consults on proposed guidance about ‘robo-advice’

ASIC today released a consultation paper and a draft Regulatory Guide on regulating digital financial product advice (also commonly known as robo-advice).

ASIC Commissioner John Price said, ‘ASIC is keen to see a healthy and vibrant digital advice sector. We see digital advice as having the potential to offer Australian consumers access to good quality, low-cost, financial advice.’

As part of its commitment to encouraging innovation that may benefit consumers, ASIC has developed draft guidance on the provision of digital product advice to retail clients. This guidance follows direct engagement with digital advice providers about their business models.  During that engagement it became clear that digital advice providers would benefit from additional ASIC guidance specific to digital advice.

ASIC’s draft regulatory guide brings together some of the issues that persons providing, or intending to provide, digital advice to retail clients need to consider when operating in Australia—from the licensing stage (i.e. obtaining an Australian financial services (AFS) licence) through to the actual provision of advice.

ASIC is also seeking feedback on issues that are unique to digital advice businesses, in particular:

  • the organisational competence obligation that applies in a digital advice context; and
  • the ways in which digital advice licensees should monitor and test their algorithms.

‘ASIC is committed to helping industry take advantage of the opportunities offered by robo-advice while ensuring that investor and financial consumer trust and confidence is not compromised. We encourage industry and other stakeholders to take part in this consultation process,’ Mr Price said.

The closing date for submissions is 16 May 2016.

Download

Consultation Paper 254 Regulating digital financial advice and draft Regulatory Guide 000 Providing digital financial product advice to retail clients

Background

Digital advice (also known as ‘robo-advice’ or ‘automated advice’) is the provision of automated financial product advice using algorithms and technology and without the direct involvement of a human adviser. It can comprise general or personal advice, and range from advice that is narrow in scope (e.g. advice about portfolio construction) to comprehensive financial product advice.

The provision of digital advice has grown rapidly in Australia since 2014, with a number of start-up AFS licensees and existing AFS licensees developing digital advice models. This growth is expected to continue.

ASIC’s consultation paper and draft guidance coincides with the release today of the Australian Government’s statement on Australia’s FinTech future.

ANZ’s OnePath breaches resulted in compensation of ~$4.5 million

Following concerns raised by ASIC, the Australia and New Zealand Banking Group (ANZ) has agreed to an independent review of its One Path subsidiaries’ compliance functions.

ASIC sought the review following a significant number of breaches reported by the ANZ Group in relation to its life, general insurance, superannuation and funds management activities. These activities are operated through its wholly-owned OnePath group of subsidiary companies.

From early 2013 to mid-2015, around 1.3 million customers were affected by breaches, requiring refunds and compensation of around $4.5 million, rectifications and other remediation of approximately $49 million. Not all breaches required monetary remediation. Examples of breaches include:

  • 1,422 superannuation fund members had $28.7 million in contributions allocated to the incorrect super account of the member for a period up to 12 months. ANZ has now returned these funds to the correct accounts and provided over $400,000 compensation for lost earnings and/or incorrect fees.
  • OnePath failed to take further action in relation to 21,000 cheques it had sent to customers that were not banked within 15 months. These cheques included proceeds of insurance claims, superannuation benefits and refunds of premiums. $2.9 million was ultimately returned to customers with a further $11.6 million treated as unclaimed monies.

ASIC was concerned that the breaches together reflected compliance issues which may impact on Australian Financial Services (AFS) licence obligations of entities in the ANZ Group. ANZ has engaged PricewaterhouseCoopers (PwC) to independently review the OnePath subsidiaries’ compliance management framework.

ANZ has agreed to take appropriate actions to implement recommendations stemming from the PwC review. ASIC is also separately monitoring rectification of the breaches as some breaches are yet to be finalised.

ASIC Deputy Chair Peter Kell said, ‘Appropriate compliance and systems to monitor compliance are essential for banks to adhere to their AFS obligations. This is important in maintaining customer trust and confidence in the sector.’

‘ASIC expects all AFS licensees to have systems in place to ensure they can satisfy their general AFS obligations.’

ASIC acknowledges the co-operative approach the ANZ Group have taken in this matter, including in ensuring that breaches were notified to ASIC.

ANZ Group customers who have any questions should contact 133 665.

Background

The ANZ Group’s subsidiaries with AFS licences include OnePath Custodians Pty Ltd, OnePath Life Limited, OnePath Funds Management Limited and OnePath General Insurance Pty Limited.

The breaches included:

  • failure to provide disclosure documentation for some insurance products;
  • inadequate systems or processes to ensure compliance. In some cases processes did not ensure reasonable steps were taken to contact customers or that statutory timeframes were met. Some processes included manual steps that were not followed up on;
  • insufficient supervision of some outsourced functions, including third party call centres;
  • processing errors, such as payments made to incorrect superannuation accounts; and
  • significant time taken to identify some breaches.

The PwC review will:

  • review and assess the design and operational effectiveness of the OnePath compliance management framework including policies and processes;
  • assess the adequacy of processes designed to identify and manage the financial services laws which apply to the OnePath companies holding AFS licences; and
  • identify any gaps in the compliance management framework and report back to the ANZ Group and ASIC.

ANZ’s statement follows:

ANZ today confirmed it engaged PwC in January 2016 to conduct an independent
compliance review within its OnePath subsidiaries, following compliance breaches that were
proactively reported to the Australian Securities and Investments Commission (ASIC) from
early 2013.

ANZ Wealth Australia Managing Director Alexis George said: “While the majority of these
compliance breaches are in the past, we know we can do better. We agreed with ASIC last
year that an independent review of our systems will be undertaken to further strengthen our
compliance systems.

“We would like to apologise to impacted customers and assure them we’ve been working
hard to improve our controls.

“As soon as we became aware of issues early in 2013 we reported these breaches to ASIC
and provided our full cooperation with their review of the matter. We’ve also taken
significant additional steps to strengthen our compliance systems, including targeted
external audits and additional staff training to improve monitoring, reporting and
governance,” Ms George said.

Since February 2013, ANZ has compensated approximately $4.5 million to around 1.3
million OnePath customers. Breaches included not following up on some unbanked cheques
and for superannuation contributions not being allocated to the customer’s correct account.
None of the breaches relate to life insurance claims.

As part of the review, PWC will identify any gaps in OnePath’s compliance systems and
make recommendations to improve frameworks, policies and processes. The review began
in January 2016 and is expected report back to both ANZ and ASIC by the middle of the
year.

ANZ pays $212,500 penalty for breaching responsible lending laws when offering overdrafts

ASIC says Australia and New Zealand Banking Group (ANZ) has paid penalties totalling $212,500 for breaching responsible lending laws in making offers of overdraft facilities to its customers.

ANZ offers an overdraft facility known as ‘ANZ Assured’ to existing customers in conjunction with particular transaction accounts.

Between November 2014 and January 2015, ANZ sent written offers to certain customers to enter into the overdraft facility with a specified limit of either $500 or $1,000.  Customers could accept the offers via various means: by mail, phone, internet banking or by attending at a branch in person.

ASIC found that:

  • for offers of a $500 limit, customers were not given an option to elect a different overdraft amount; and
  • for offers of a $1,000 limit, customers were not given an alternative limit option if they responded to the offer via mail or in person at a branch.

These failures by ANZ were in breach of its obligation to make reasonable inquiries about the credit limit a customer requires – a protection aimed at ensuring that consumers can select the credit limit that meets their needs, particularly where they may need a lower credit limit than what might be on offer.

Deputy Chairman Peter Kell said, ‘The requirement to make inquiries about a consumer’s credit limit was a deliberate addition to the general responsible lending obligations by the Government. The requirement is designed to ensure that consumers do not end up with unmanageable debt.  This case demonstrates that ASIC will impose penalties for breaching these important protections’.

Background

The requirement to make reasonable inquiries regarding a consumer’s required maximum credit limit was introduced into the National Consumer Credit Protection Act 2009 (Cth) by Parliament in 2011 to reform the practice by lenders of making unsolicited offers of credit to customers.  The requirement is one way in which the law aims to ensure that consumers’ requirements and objectives are met, by requiring customers to choose the amount of credit they actually need (and to think about whether they need credit at all), rather than being encouraged to apply for a suggested, and possibly unsuitable, amount (see s 130(1)(d); reg 28JA).

ANZ has co-operated with ASIC’s investigation.

ASIC issued five separate infringement notices to ANZ in respect of the breaches outlined above.

The National Credit Act allows infringement notices to be issued for strict liability offences and certain civil penalty contraventions where ASIC has reasonable grounds to believe a person has contravened the provision. The payment of an infringement notice is not an admission of a contravention of the National Credit Act.

ASIC commences civil penalty proceedings against ANZ for BBSW conduct

ASIC has today commenced legal proceedings in the Federal Court in Melbourne against the Australia and New Zealand Banking Group Limited (ANZ) for unconscionable conduct and market manipulation in relation to the ANZ’s involvement in setting the bank bill swap reference rate (BBSW) in the period March 2010 to May 2012.

The BBSW is the primary interest rate benchmark used in Australian financial markets, administered by the Australian Financial Markets Association (AFMA). On 27 September 2013, AFMA changed the method by which the BBSW is calculated. The conduct that the proceedings relate to occurred before the change in methodology.

It is alleged that ANZ traded in a manner intended to create an artificial price for bank bills on 44 separate days during the period of 9 March 2010 to 25 May 2012.

ASIC alleges that on these days ANZ had a large number of products which were priced or valued off BBSW and that it traded in the bank bill market with the intention of moving the BBSW higher or lower. ASIC alleges that ANZ was seeking to maximise its profit or minimise its loss to the detriment of those holding opposite positions to ANZ’s.

ASIC is seeking declarations that ANZ contravened s.12CA, s.12CB and the former s.12CC of the Australian Securities and Investments Commission Act 2001 (Cth), s.1041A of the Corporations Act 2001 (Cth) (Corporations Act), and s.912A of the Corporations Act.

Further, ASIC has sought from the court pecuniary penalties against ANZ and an order requiring ANZ to implement a compliance program.

ANZ in turn today rejected allegations regarding bank trading and the bank bill swap rate (BBSW) made in this afternoon’s statement of claim by the Australian Securities and Investments Commission (ASIC).

ANZ will vigorously defend legal action brought by ASIC. Since mid-2012 ASIC has been investigating the practices of 14 panel bank participants in the Australian interbank BBSW market covering the period 2007 to 2012. ASIC’s statement of claim in relation to ANZ covers to the period March 2010 to May 2012.

ASIC has advised ANZ that it has no concerns about the bank’s current market practices and ANZ notes there has been no allegation of collusion between it and other institutions. ANZ Chief Risk Officer Nigel Williams said: “We have cooperated fully with ASIC’s investigation over many months, at a cost of many millions of dollars. This includes actively seeking to resolve the Commission’s concerns since January 2015. “We believe the Commission’s statement of claim is based on a misunderstanding of how bank bill issuance and interest rate risk management operates and the limited case law which applies to this area. “Our practices in the BBSW market were consistent with Australian market practices in wholesale financial markets and we reject ASIC’s characterisation of the transactions in question.

“Chat messages between traders is an issue that we will continue to review. We have already dealt with chats and behaviours that breach our Code of Conduct through internal disciplinary action against the individuals involved. “Since June 2014 we have also engaged ASIC about chat messages between ANZ traders. We do not agree however with ASIC’s characterisation of the issues related to the chat messages. It is now for the Courts to provide clarity on trading practices,” Mr Williams said.

ASIC’s legal action is likely to take a considerable time to reach a resolution through the Courts and the matter of penalties is uncertain.

ASIC and brokers: Communication breakdown?

Further information on the debate about Mortgage Brokers, this time from MPA. The article highlights the issues in play.

From Sam Richardson, Mortgage Professional Australia.

Navigating Regulation is part and parcel of running a business. Occasionally however, it determines the future direction, not only of a business, but of an entire industry, as it did in 2008/9 with the passing of the National Consumer Credit Protection Act. Eight years on, 2016/17 looks likely to have an equally strong impact on brokers’ businesses, driven by a perfect storm of regulatory and political activity.

At the request of the Assistant Treasurer, brokers’ remuneration is set to be investigated by ASIC, who are themselves the subject of a government ‘capability review’ – just one of many consequences of 2014’s Financial System Inquiry. That’s not to mention debates over user-pays funding, interest-only lending and more.

In short, brokers and ASIC will need to closely engage with each other – more than they have at any time since the NCCP. Yet, a recent poll by MPA sister-title Australian Broker found that understanding between the industry and regulators appears to be at alarming lows. The magazine asked its readers, ‘Do you agree that ASIC understands the mortgage industry?’, and 86% of respondents disagreed. The magazine took the results of the poll to several prominent brokers, who provided suggestions for this lack of trust.

What they found is that brokers have four areas of concern: that ASIC doesn’t understand the technical aspects of brokers’ compliance procedures; that ASIC should instead be investigating the banks; and finally – and crucially – that ASIC don’t communicate enough with brokers or industry associations. Undoubtedly, current debates, such as over interest-only lending, have not endeared the regulator to brokers, and this dissatisfaction appears both more deeply engrained and wide-ranging. Therefore, this article will also look beyond current debates, examining where communication between brokers and their regulator has broken down, and what can be done to repair the relationship.

1 Broking’s industry bodies and ASIC
Beginning with ASIC’s understanding of the industry, it seems that brokers hold a very different view to their own industry associations. MPA put the 86% statistic to the FBAA’s Peter White, whose reply was unequivocal. “Unfortunately, that is the brokers’ problem,” he explained. “ASIC understands brokers, and to say that they don’t is very, very wrong.”

Drawing on his work with regulators from the introduction of the NCCP onwards, White insisted that “ASIC’s got some enormous skillsets and [people] who understand broking very, very well”.

Similarly, the MFAA’s CEO Siobhan Hayden doesn’t believe the statistic is completely fair. “They [ASIC] are fairly well versed,” she said. “They come out to some of our broker events, they talk to brokers, they engage with us regularly. They have a good understanding of how brokers work and how they’re remunerated.”

Indeed, ASIC personnel have attended recent broker events, including the FBAA’s national conference last November, where they addressed attendees and then answered brokers’ questions.

Within ASIC’s corporate structure – illustrated in our box out – there are several individuals of whom brokers should be aware. The MFAA point to Michael Saadat, senior executive leader of deposit takers, credit & insurers (which includes brokers), who is overseen by ASIC deputy chair Peter Kell. In terms of experience, Saadat worked in compliance at ASIC, Citibank and previously PwC, while Kell comes from a consumer protection background, at ASIC, the Australian Competition and Consumer Commission and CHOICE. Both are well established in their jobs – Saadat has been at ASIC since 2005 (excluding a brief two year spell at Citibank), Kell from 1998-2004, rejoining the regulator in 2013.

2 How ASIC relates to other regulators
Saadat and Kell certainly have the experience to understand broking, but they’re not the only decision makers brokers have to deal with. Australia’s regulatory framework has several layers, of which ASIC is just one. As FBAA chief White notes, ASIC isn’t necessarily the decision maker, but instead the ‘policeman’ tasked with enforcing them. The Treasury sets ASIC’s priorities and is thus the cause of much misunderstanding. “We get changes of ministers on a regular basis now,” says White. “Not all the ministers understand brokers on a federal level.” The remuneration inquiry, for instance, was announced by assistant treasurer Kelly O’Dwyer, although the inquiry itself will  e carried out by ASIC.

The importance of the Federal Government in fi nancial regulation was underlined by the MFAA’s appointment of a professional lobbyist, GRACosway, which CEO Hayden says at the time was a response to members who believed government needed to be educated about broking. “It is clear from media comments in the past 12 months that some representatives of Reserve Bank of Australia (RBA), Australian Prudential Regulation Authority (APRA) and Treasury do not have a detailed understanding of our industry and this needs to change,” says Hayden.

Indeed, while not the subject of this article, APRA have enormous infl uence over brokers. As Hayden puts it, brokers are not APRA’s ‘direct customers’ – the organisation regulates lenders – but deals with brokers as a distribution channel of those lenders. APRA regularly makes comments about brokerintroduced loans, as they did in 2015, but has a much lower level of engagement – it meets with the MFAA around twice a year, unlike ASIC’s quarterly consultations. The two have clashed, notably in August last year when APRA chairman Wayne Byres warns that broker-originated loans were ‘higher risk’.

While ASIC and APRA co-ordinate through the Council of Financial Regulators, brokers who approach ASIC about APRA policies (or vice versa) will get nowhere, leading to frustration and confusion between the two. “I think sometimes the mandates ASIC and APRA have are not well understood by brokers”, MFAA CEO Hayden tells MPA. “I understand why, when a broker’s business is affected by these changes, they do get a sense of frustration from it, but sometimes it’s not channelled at the correct regulator.” She mentioned complaints by brokers aimed at ASIC about recent bank rate rises and serviceability changes – measures that were driven by APRA.

3 Where communication is failing
Both the MFAA and FBAA see broker misinformation as a cause for their distrust of ASIC, but it’s also a symptom. What it indicates is that a significant number of brokers aren’t being provided with the information so that they can deal with the appropriate regulator at the right time – and it’s not the fi rst time this problem has been raised. In 2013, ASIC commissioned a report into its stakeholders – including brokers – where ‘clearly communicating what ASIC is doing’ was among four key limitations identified by ASIC Chairman Greg Medcraft in his introduction to the report.

In response, Medcraft proposed four measures, two of which related to ASIC’s MoneySmart fi nancial literacy program for consumers, the others being to improve social media channels and review ASIC’s website. He defended ASIC’s record on communication, noting the organisation sends out around 300 media releases and takes part in 100 interviews a year. With tens of thousands of stakeholders, a large quantity of communication is understandably necessary, yet brokers still don’t appear to be getting the information they need.

ASIC’s communication directly with brokers and the press is generally to the point, relating to the results of individual enforcement actions, bans and other penalties. There are notable exceptions: ASIC’s publicly available corporate plans (which are generalist in scope); Saadat’s talk at the FBAA’s conference; and deputy chairman Kell’s interview with Australian Broker in April 2015, in which he discussed the ASIC’s focus on interest-only lending for the year ahead. Overall, however, ASIC rarely discusses future priorities or coming regulation in public, despite this being exactly the sort of information brokers need.

So how does ASIC consult and communicate with brokers? The answer – or rather the impression brokers get – is almost entirely through the two industry bodies, the MFAA and FBAA.

There are good reasons for a top-down approach, MFAA CEO Hayden explains. “They just don’t have the resources to adequately engage with all the brokers that may seek them out with enquiries or questions to ASIC.” The MFAA invites ASIC personnel to its PD days and relays its messages through its email and LinkedIn networks, in part because ASIC are “defi nitely not resourced adequately to directly support the market”. Indeed, a glance at ASIC’s budget (illustrated in the accompanying sidebar) shows that just five per cent of its budget for credit licensees goes into engagement and education.

Both the MFAA and FBAA told MPA that ASIC involves them throughout the development of regulation, but as White puts it, “What you’ll see when it becomes public domain is nearing the end of the stick”. Until that point, ASIC’s dealings take place not only behind closed doors, but under the understanding that everything discussed is confi dential. That explains why, when consultation papers do appear, the regulation they discuss is relatively fully formed. The advantage of this for brokers is that the consultations are more relevant, both in their subject matter and timing, Hayden explains. “It’s prudent to talk about information when it’s meaningful and you’re wanting feedback.”

There’s another reason why ASIC deals with industry bodies, according to FBAA CEO White. “The whole objective of writing regulation is not about achieving commercial bias,” he notes. “If I’m the head of a major brokerage or aggregator, and I’m pushing hard on the door of a regulator for something, it’s probably because it’s got a commercial advantage for me.” ASIC can deal with industry associations as “representatives of the total marketplace.”

While most major players in broking tend to deal with ASIC through the MFAA and FBAA, ASIC themselves say they also deal directly with major brokerages and aggregators. AFG managing director Brett McKeon revealed in a January letter to brokers that he’d met with representatives of ASIC and APRA, in addition to two senators.

Indeed, as regulation begins to really affect brokers businesses, one would expect an increasing number of aggregators and franchises to directly challenge the regulators. Their arguments are undoubtedly commercially biased, but their insights and data may nevertheless be valid, meaning regulators and legislators will (and indeed already do) listen to them. As ASIC tells MPA: “We are conscious that some perspectives are only available directly from the firms themselves.”

4 Finding a new approach to communication
Practically, the disadvantage of the behind closed-doors approach is that brokers experience new regulation as a fait accompli, with their opinion or expertise seemingly ignored by the regulator. So how can ASIC challenge that perception? MPA looked at the relationship between broking and regulation in New Zealand and how small business stakeholders can be better integrated in the
regulatory process.

Despite being a much smaller market than Australia, regulation of brokers and financial advisors in New Zealand makes for an interesting comparison. The MFAA has been working increasingly closely with New Zealand’s Professional Adviser’s Association, who will be involved in the MFAA’s Darwin and Beyond conference in June, and who, since 2012, represent brokers and financial advisors to the New Zealand regulator, the Financial Markets Authority.

MPA spoke to PAA board member Angus Dale-Jones about the difference between regulator-industry engagement in Australia and New Zealand. Dale-Jones is well equipped to make the comparison, having worked at ASIC for 17 years, including time as WA regional commissioner, before moving to the New Zealand Securities Commission, the predecessor of the FMA. As in Australia, the FMA are looking to strengthen financial services regulation, Dale-Jones tells us, but are doing so in a much more positive way.

Crucially, the way regulation is developed in New Zealand is “superbly better then Australia”, as Dale-Jones puts it. This is thanks to an extra layer in the process – the Code Committee, which is made up of 11 industry figures appointed by the FMA. The committee originally drew up and now periodically reviews the New Zealand code for financial advisors.

“It’s proved to be incredibly flexible and useful in the New Zealand context,” Dale Jones explains. “It’s meant that advisors and their associations have been able to get on board with the committee and understand their objectives and the direction of their thinking.”

According to Dale-Jones, the committee is a way of drawing on the expertise of “current practitioners who understand today’s issues.” It also means that minor changes to the code don’t have to involve changes in legislation, as the committee can make these changes. Moreover, Dale-Jones believes such regulator industry convergence isn’t just a New Zealand phenomenon. “In the past decade, around the world there has been a colossal change in the interaction between professional associations, industry bodies and the regulators,” he says. “Now it is seeking more of a convergence between those players, looking at ways of getting outcomes that makes everybody happy, so you’re starting to see far greater interest in self-regulatory solutions.”

5 Moving towards self-regulation in Australia
With regulatory initiative trickling down from government or even international level – such as the raising of bank capital requirements – Australia doesn’t appear to have a particularly self-regulating financial system, at least in the third-party mortgage space. Indeed, one might presume the level of misunderstanding between brokers and ASIC would stop such an initiative in its tracks. Nevertheless, there are a number of reasons why brokers should make themselves part of the regulatory process.

Whether or not they seek it, ASIC needs brokers’ input. One major changeover in the past 12 months has been ASIC’s use of industry-generated reports, according to MFAA CEO Hayden. “What I’ve tried to bring to the table, with the support of the board, is getting our hands on more data… Things like the Ernst and Young report, which [involved] 700 customers and nine key lenders in our industry, was really well received by ASIC. Michael Saadat and Robert Allen both called me and said, ‘That’s great information – how often will you run it?’”

Similar one-off reports will appear throughout the year, including a study at the major banks’ loan books by accountancy giant Deloitte to counter APRA’s comments about the risks relating to broker-originated loans. In late February, the MFAA released the first in a series of regular reports, the Industry Intelligence Service (IIS), providing regular twice-yearly statistics on brokers, in conjunction with business benchmarking firm Comparator.

In order for their reports to have the most impact, the MFAA has begun consulting with ASIC before commissioning reports. “We’re not an agent of them as such,” notes Hayden. “But we’re trying to ensure that if we’re investing money in this analysis, that we’re meeting the stakeholders’ requirements – not just aggregators and brokers, but ASIC as well… I don’t think they’ve got the time or the resources to do the detailed analysis that we conduct.”

Industry-driven reports have two beneficial effects. Firstly, by dictating the focus of the reports the industry can help influence the terms of the debate at a regulatory level, for example, countering accusations of broker commission distorting the market by showing how much the average broker actually makes (as the MFAA’s abovementioned benchmarking studies reveal). It also helps correct inaccuracies in reporting by external players, such as by consumer advocacy group CHOICE, which talked to just five homebuyers for their report slamming brokers back in May 2015.

Secondly, by showing the willingness to rigorously investigate itself, the industry demonstrates to ASIC it has the right culture. This might sound vague, but ensuring industries have the right culture, rather than simply processes, is the new focus of financial regulators worldwide, and ASIC is no exception.

“Culture is a significant driver of the behaviour of firms,” ASIC chairman Medcraft wrote in ASIC’s Corporate Plan 2015/16 to 2018/19. “Where we find a firm’s culture is lacking, it is a red flag that there may be broader regulatory problems.”

Following from this, ASIC’s 2016 forum is titled ‘Culture Shock’, with culture being the main talking point. The wider financial community is following suit. In January 2016, ANZ bank was roundly criticised for the ‘toxic culture’ of its trading department, leading to major management changes.

Ultimately, the industry doesn’t just have an incentive to report upon itself, it has a responsibility, as FBAA CEO White explains. “ASIC can only police what they see. Some things go under the radar … if no-one’s brought it to attention [but] how can they? They’re reliant on us, the industry, to tell them what’s going on.”

6 What can you do?
By virtue of their size and public profile, the MFAA, FBAA, major franchises and aggregators all have a responsibility to involve themselves in regulation – but what about the individual broker? While acknowledging ASIC’s preference to work through industry associations, the MFAA and FBAA are keen to get their members more closely involved in responding to regulation.

That starts with an engaged broker effectively communicating their opinion on a new piece of regulation, notes White. “It’s one thing to make a momentary stand on a blog site, but the real depth comes from when people send in their submissions to their industry bodies, or write to their parliamentarian, but if people don’t come to us, we can’t express their view.

“You’ve got to be prepared to put some time in to get results. That time may be an email, or it may be getting more involved in the council, or at board level, of an industry body.”

For brokers who want to go further, the FBAA has a number of national and state representative positions, while the MFAA has various panels for different types of brokers and female brokers (i.e. the Women In Mortgage Broking Network). Hayden sends out a CEO column to members of these panels and believes there is definitely more scope for engagement. Although, she said: “Most people are too busy with their own jobs to worry about that and they rely on their industry association to manage it on their behalf.”

It’s this point which is crucial – negotiating regulatory politics is not what a broker is best at, nor what earns them a living. The vast majority who don’t want to get involved rely on ASIC to understand their industry and regulate accordingly, which is why it’s so alarming that 86% of polled brokers don’t believe that is the case.

As an industry, broking is increasingly producing the data and reporting that underresourced industry regulators need, driven by those brokers and industry leaders – often outside the MFAA and FBAA – who do care about the culture of third party channels. In return, these brokers and leaders need a regulator who actively and publicly engages with them and systematically integrates their expertise into its regulation.

ASIC RESPONDS
MPA asked ASIC to respond to the key points in this article. Here’s what they told us:

“ASIC engages in regular and ongoing communication with all sectors of the credit industry. A key way we do this is via industry peak bodies, and with more than 5,000 credit licensees, and more than 25,000 authorised credit representatives, the broker peak bodies play an important role. However, this is not the only way we engage with industry.

“ASIC delivers presentations to national industry events, such as the FBAA National Conference on the Gold Coast and the MFAA National Conference, including from ASIC Deputy Chair Peter Kell . In addition, ASIC staff regularly attend and make presentations at state-based industry functions for both the MFAA and FBAA and use those forums to discuss current industry issues and regulatory priorities.

“We are speaking in all states at the upcoming MFAA Broker 2020 series. We write articles for and engage in interviews with industry publications. And ASIC does have direct discussions and engagement with the larger mortgage broking and aggregator businesses, as we are conscious that some perspectives are only available directly from the firms themselves.”

ASIC advises brokers to look at the regulator guides on their website, including RG 209 on Responsible Lending, RG 205 on General Conduct, and INFO 146 on Responsible Lending. With regard to their regulation of lenders, they point to recent action taken against Bank of Queensland, Wide Bay (now Auswide Bank) and CUA in addition to their interest-only and low doc lending reviews.

They then conclude: “We do, however, believe that brokers play a very significant role in arranging lending, and that it is critical that consumers have trust and confidence in the broking industry, as well as lenders… ASIC’s job is to enforce the laws that are passed by Parliament so that, ultimately, consumers benefit from a safe and well-functioning market. There may be disagreement in some parts of industry about these laws, but that does not mean ASIC doesn’t understand the industry.”

The Truth About Mortgage Brokers

Recent media coverage about mortgage brokers has been quite negative, with allegations of poor ethical standards and false application data being used by some to bolster loan applications. So in this post and in our latest video blog we look at data from our household surveys to portray the current state of play.

To begin, mortgage brokers have become a significant feature in the mortgage industry landscape. Indeed almost half of new loans are now originated by brokers. Different household segments have different propensities to use brokers. Those seeking to refinance, first time buyers and property investors are most likely to use a mortgage broker.

Broker-Feb-2016We expect this growth to continue, thanks to the current appetite for refinancing, and the broker focus now apparent among major banks. For example CBA, in their recent results reported to December 2015 that 45% of their loans came via the broker channel, up from 40% a year earlier. In addition regional players and credit unions are using brokers, alongside foreign banks operating here and the non-bank sector.

Broker-Share-Feb-2016Commissions have been tweaked recently, and the industry commission take is now back up to pre-GFC levels, (after adjusting for inflation) because whilst overall commissions were trimmed, volumes have grown.

Broker-Commissions-2016Remember that brokers get a commission payment at the start of the loan, as well as a trail paid in subsequent years. The bigger the loan, the bigger the commission. Very few aggregators normalise actual commissions paid – although Mortgage Choice does, so they claim their brokers are less influenced by commission structures.

“At Mortgage Choice we pay your broker the same rate, no matter which home loan you choose from our wide choice of lenders. That means you can tap into a Mortgage Choice broker’s expertise at no charge, with peace of mind that they have your best interests at heart”.

Some brokers refund a proportion of the commission from the lender back to the borrower. For example Peach Home Loans says:

“When we arrange your loan we are doing quite a bit of the work that the lender’s staff would otherwise have to do and as a result the lenders pay us a commission on the upfront (loan amount) – this is typically around 0.6% or $600 per $100,000. We try to recover our costs from this commission and then share what is left over with you. Lenders also pay us a small trailing commission typically from 0.15% to 0.25% pa paid on the outstanding loan balance … and this is where we try to make our profit.. after all we are in business to make a profit.”

Consider next who is the broker working for? Whilst some are directly employed by banks or aggregators, others are self employed businesses. They are mostly aligned to aggregators or banks to get access to the lender lists and access to various tools and calculators. As a broker, they want to do a deal and the legislation controlling their conduct says they need to consider the financial status of an applicant to ensure the loan is “not unsuitable.” From ASIC’s responsible lending provisions:

“As a credit licensee, you must decide how you will meet the responsible lending obligations. RG 209 sets out our expectations for compliance. Meeting your responsible lending obligations will require taking three steps:

  1. make reasonable inquiries about the consumer’s financial situation, and their requirements and objectives;
  2. take reasonable steps to verify the consumer’s financial situation; and
  3. make a preliminary assessment (if you are providing credit assistance) or final assessment (if you are the credit provider) about whether the credit contract is ‘not unsuitable’ for the consumer (based on the inquiries and information obtained in the first two steps).

In addition, if the consumer requests it, you must be able to provide them with a written copy of the preliminary assessment or final assessment (as relevant)”.

This is quite weak protection, because suitability may depend on many factors, including financial sophistication of the potential borrowers, income and expenditure assessments and other elements.

The list of lenders a broker may consider will depend on the lender panel they have access to. Most brokers will access a restricted list of potential lenders, and cannot offer a “whole of market” view of options. Quite often they will use on-line tools with a client to come up with the best deals, although often the basis for selection and lender recommendation is vague and is often not fully disclosed.

Some brokers are very proactive when it comes to shepherding the loan application through to funding, others less so. Some brokers will also keep a diary note to instigate a possible refinance conversation down the track.

But, to be clear, whilst many brokers will give good advice, they are in an area of potential conflict thanks to commissions, and limitations thanks to the panel. Brokers should be disclosing potential commissions and also their selection criteria.

The alleged poor conduct where brokers falsify applicant data is in our view a marginal activity of a “few bad apples.” That said, consumers should be using a mortgage broker with their eyes open. Ask yourself if the broker is truly working in your best interests.

APRA recently said that they considered loans written via brokers to be more risky than loans written direct by the banks. APRA chairman Wayne Byres said:

“Third-party originated loans tend to have a materially higher default rate compared to loans originated through proprietary channels.”

So we decided to analyse our current household survey data, looking at relative risks between third party (broker) and first party (bank) loans. We tested risks by asking households about their perceived sensitivity to interest rate rises on mortgage loans. You can read about our approach here.

The results show that households who originated loans via brokers have less headroom and more exposure to potential interest rate rises (should they occur). For example, among owner occupied first time buyers, 28% of those who got a loan direct from a bank said they would have difficulty if rates rose at all from their current levels, whereas for owner occupied borrowers via a broker this rose to 43%, a significantly higher proportion. Further analysis showed that on average loans via brokers was at a higher loan to value and loan to income ratio than those direct via the bank.

FTB-OOThere was a similar, though less extreme shift in risk across all owner occupied portfolios, with 40% of borrowers direct from a bank saying they could cope with more than 7% rise, compared with 20% of those via a broker.

OO-HeadroomLooking at refinanced owner occupied loans we again saw a higher proportion less able to cope with a rise in rates among households who got their loan via a broker channel.

Refinanced-OOOn the investment property side of the ledger, among portfolio investors – those with multiple properties in a portfolio, there was a higher proportion who would be exposed by any rate rise among those going direct to a bank, compared with a broker – but the difference is quite small and combined more than 40% of portfolio investors would have issues if rates rose.

Portfolio-Investor-HeadroomWhen we looked at all investment loans, we found that households who obtained a loan via a broker were slightly more likely to be under the gun if rates rose, and a significantly higher proportion of borrowers who went direct to a bank were confident of handling a rise of more than 7% from current levels.

Broker-Headroom Consolidating all the results, we conclude that households who accessed loans via brokers have on average less head room to accommodate rate rises compared with those who went direct. APRA is correct.

Broker-and-OO-Headroom

ASIC calls for further improvements from home insurers

The vast majority of households with home insurance may well be exposed to unexpected loss according to ASIC. Following a survey of 23 home insurance brands covering 12 insurers, ASIC is calling for further improvements across the sector to help consumers make good decisions about their home insurance cover.

In response to ASIC’s recommendations from October 2014, insurers have made a range of improvements. In particular, most insurers have implemented, or are implementing, the following changes:

  • Incorporating a sum insured calculator into point of sale processes, including through updated sales scripts, and providing better access to online calculators. This helps consumers select an appropriate sum insured amount during the quote and sales process, an important way to help reduce the risk of underinsurance; since October 2014, four additional insurers have made available sum insured calculators in both their telephone and online sales channels.
  • Training staff so that information provided to consumers about the sum insured, and the maximum amount paid by the insurer, is clear and in plain English; since October 2014, an additional eight insurers have adopted this practice for their telephone sales and an additional 11 for their online sales.
  • Providing information or assistance to consumers about the effect of changes to building codes which may increase the cost of rebuilding homes after a total loss; since October 2014, four additional insurers have made changes to provide this information.

View ASICS’s infographic which sets out the survey results

Home Insurance Underinsurance Thmb

Although welcoming these changes, ASIC’s survey identified that there is scope for insurers to take additional steps. In particular, we would like insurers to help consumers select the right insurance cover by:

  • explaining that the sum insured amount needs to enable complete replacement of contents or complete rebuilding of their home;
  • providing guidance about coverage or sum insured amounts, rather than simply referring consumers to the product disclosure statement;
  • referring to the Key Facts Sheet to assist decision making; and
  • providing information and guidance about natural perils risks and additional rebuilding costs due to natural perils, to better estimate rebuilding costs after a total loss.

An example of an initiative that is aimed at providing more information and guidance to consumers is one insurer’s website that allows consumers to enter their suburb or postcode and receive targeted information about that area including relevant risks, types of claims, types of weather events, and a dollar figure for how much other consumers in the area insure their building and contents.

ASIC has been working with the insurance industry to better understand barriers to the provision of financial product advice to consumers purchasing home insurance. ASIC has already taken steps to encourage and facilitate insurers operating under general advice models to provide useful information to consumers.

‘ASIC is keen to see industry make improvements in all of the areas identified in ASIC’s 2014 report,’ ASIC Deputy Chair Peter Kell said.

‘Our goal is to make sure that consumers buy insurance that better meets their needs – including by helping to reduce levels of underinsurance, especially when there are natural disasters.’

ASIC will continue this work with the insurance industry to further enhance the sector’s  ability to assist consumers in purchasing home insurance that better meets their needs.

Background

ASIC released two reports in October 2014 exploring consumer experiences with the sale of home insurance.

In Report 415, ASIC reviewed the sales practices of 13 insurers who sell home insurance across Australia. Report 415 found that for sum insured policies, it is important to help consumers to set an appropriate sum insured amount, so that they are adequately insured in the event of a total loss.

Most home insurance policies in Australia are ‘sum insured’ policies, where the insurer agrees to pay only up to an agreed amount (the sum insured), nominated by the consumer, to repair or rebuild a damaged or destroyed home.

ASIC encourages insurers to inform consumers that the building sum insured amount should reflect the amount that it would cost to completely rebuild their home. Similarly, the contents sum insured amount should reflect the amount it would cost to completely replace all contents with new items at today’s prices. The sum insured amount should also reflect the cost to rebuild the consumer’s home to meet new building codes and standards, and any other supplementary costs. For information on supplementary costs see MoneySmart’s page on home insurance supplementary costs

Findings from Report 415 were considered in the Financial System Inquiry which called for improved guidance (including tools and calculators) and disclosure for general insurance, especially in relation to home insurance.  The Government has agreed to support work by industry to increase guidance and disclosure in general insurance.

ASIC also notes and welcomes subsequent industry recommendations targeted at effective disclosure. Some of the Effective Disclosure Taskforce’s recommendations align with ASIC’s findings, particularly in relation to improving the provision of information to consumers about natural hazard risk, and integrating sum insured calculators into the sales process.

Market manipulation – ASIC better get it right, first time

From The Conversation.

Greg Medcraft, chairman of the corporate regulator ASIC, is a distinguished banker who worked for 27 years in the obscure world of asset securitisation with the large French bank Societe Generale. He helped to set up the American Securitisation Forum (ASF) and is also chairman of the international securities industry body, IOSCO, which bills itself as “the global standard setter for securities markets regulation”.

Mr Medcraft then is probably as well placed as anyone in Australia to understand the complexities of the financial markets that gave rise to the interest rate benchmark manipulation scandals, which are grouped under the general term LIBOR but include other benchmarks such as EURIBOR, TIBOR and the local variant, BBSW (Bank Bill Swap Rate).

The fallout from these scandals rolls on but according to reporting by Adele Ferguson (a one-woman regulator) it will soon be the turn of BBSW to take the spotlight.

The reasons that manipulation of interest rate benchmarks took place are complicated, caused by an explosion of financial trading in the last 20 years, especially in so-called Interest Rate Swaps (IRS), and the failure of regulators to handle the flood of new types of securities.

[For an academic explanation of the phenomenon, see here and here and for a general overview see here.]

The initial reaction to the revelations that Australian banks just might be involved with manipulating BBSW was outrage, especially from AFMA, the investment bankers’ industry body. This stance was however undermined when, in January 2014, ASIC accepted an “enforceable undertaking” from BNP Paribas (BNP) in relation to potential misconduct involving BBSW.

Since then, however, there has been little information about other possible instances of BBSW manipulation other than ASIC’s investigations were ongoing and ongoing and ongoing.

It is strongly rumoured that ANZ will be in the firing line when ASIC eventually decides to take regulatory action, long after other jurisdictions have done so. This is, in part to do with the salacious revelations emerging from a civil case brought by ANZ traders against the bank for wrongful dismissal related to possible manipulation of BBSW.

ASIC is in the spotlight and it really has to put up or shut up.

Many of the big birds have already flown. With the recent departure of Mike Smith from ANZ, all of the CEOs of the big Australian banks who were in charge when the BBSW investigation was started have gone. ASIC’s inquires have taken so long that the chances of getting any “clawback” of bonuses if serious misconduct is proven have disappeared.

Unfortunately, Mr Medcraft is an accountant rather than a lawyer and ASIC faces a real legal quandary – whether to prosecute the individuals involved, the banks they worked for, or both. All of these paths are fraught with possible dangers.

Going after individuals is difficult. Although the UK Serious Fraud Office had a win against Tom Hayes, the Libor Mastermind, it had a spectacular loss against six brokers who had been accused of supporting Hayes. The failure to convict the brokers resulted in the ridiculous situation where Hayes was convicted but his alleged co-conspirators walked free.

A UK legal expert, Alison McHaffie noted that

“Apart from being acutely embarrassing to the SFO, these verdicts show how difficult it is to demonstrate criminal activity by individuals for this type of market misconduct

It is always easier to bring regulatory action rather than criminal prosecution.”

Which brings us to the second option, going after the banks.

If the reports are correct, ASIC may be considering prosecuting ANZ, although it is difficult to see under which statute. In the past, Mr Medcraft has pointed to Section 12.2 of the Commonwealth Criminal Code, which he argued would allow

“companies to be charged with being an accessory to a crime if the company’s culture encouraged or tolerated breaches of law.”

But that was in the days when “culture” was flavour of the moment.

It would be a brave (and probably foolhardy) regulator who would take on a single bank alone, hoping to prove conclusively in court that the bank’s culture was responsible for fraud and misconduct. That is only a bonanza for lawyers for the next decade.

So what to do?

History has shown that a single regulator can do very little on their own, especially one whose mandate is so diffuse and its staff so overstretched.

Overseas experience has shown that when multiple regulators get together, share information, skills and most importantly purpose they can succeed in jointly fining multiple banks. Singly, regulators can get picked off – as a pack they can be successful.

In the Australian context, what this means is that, while ASIC might be the spearhead, the real firepower should be provided by the Council of Financial Regulators, comprising ASIC, APRA and the RBA. When ASIC finally decides to prosecute someone for manipulating the market, the other members of the CFR should not only come out in unequivocal support of ASIC but also announce how they will use their powers to support ASIC, such as, for example in the case of APRA, additional operational risk capital charges for misconduct.

The curtain is about to go up on the second act of the BBSW tragedy (or is it farce), and we await the entry of the villain(s) with keen expectancy. But will the show close on its first night, with no prospect of a revival?

Author: Pat McConnell, Honorary Fellow, Macquarie University Applied Finance Centre, Macquarie University