Views on improving the integrity of global capital markets
17 April 2020

Corporate culture and professionalism: Can COVID-19 spark regulators and the industry to take action?

The current global health care emergency has caused a massive economic shock and turmoil in financial markets. The situation has triggered central banks from around the world, national governments, and the EU to put in place enormous spending packages to stimulate the economy. Despite its severity, this crisis also could represent an opportunity for regulators and financial institutions to set out measures to address inappropriate culture and behaviors, which were the factors precipitating the 2008 global financial crisis that remain present in markets today.

Drastic improvements in culture and conduct, and better promotion of ethical actions and competence, are needed to earn consumer trust. This trust is fundamental for the investment industry to increase the amount of investments in the economy and to reduce the cost of raising capital for businesses.

Measures banning third-party payments to financial advisers have been taken by some regulatory authorities to reduce the potential for conflicts of interest and ensure better investor protection. The rationale is that the provision of commissions to investment advisers could lead to the sale of products that are not suitable for the consumer. Bans on commissions alone, however, do not guarantee the reduction in conflicts of interest. The 2019 CFA Institute Sales Inducements in Asia Pacific report analyzes the practice of restricting inducements, which some jurisdictions in Asia Pacific adopted in recent years. The study highlights that such prohibitions do not sufficiently prevent mis-selling practices or avoid conflicts of interest. To offer higher investor protection, investment managers and advisers should owe a clear duty of care to their clients and provide complete disclosure of fees. A special discussion with national regulators to strengthen investor protection in fund sales and distribution was held in Madrid on 25 February 2020. Regulators shared practices and approaches used in their countries and discussed ways to eliminate mis-selling of financial products.

Following this session, the issues of corporate conduct and professionalism were discussed by national regulators, academics, and industry representatives at the CFA Institute Financial Industry and Regulatory Symposium. In his keynote speech, Paul Andrews, secretary-general of the International Organisation of Securities Commission (IOSCO), emphasized the importance of ethics, culture, conduct, and confidence. Historically, most regulators focused only on conduct and confidence, while neglecting the other two elements. In 2015, the IOSCO Growth and Emerging Markets Committee established a task force, which then issued the 2016 “Report on Corporate Governance.” The report examines corporate conduct and the approaches and tools regulators should use to encourage ethical behavior, including whistleblower protection mechanisms and management of conflicts of interests.

Andrews remarked that regulators have looked at the other two elements (i.e., ethics and culture) in a traditional manner without taking action. The increasing use of financial technology represents a challenge and might trigger regulators to more flexibility and to come up with policy measures on ethics and culture. They do not have an easy task if they want to intervene with rules or standards that are technologically neutral.

Cathie Armour, Commissioner, Australian Securities and Investment Commission (ASIC), stressed that the primary responsibility of professionals’ misconduct lies with firms and their remuneration practices. The notion of professionalism is appropriate, but competent authorities’ arbitrary responses to incorrect behavior did not measure up. ASIC has been using a new supervisory approach to look at standards of behavior introduced in financial organizations. The approach is based on two steps: (1) putting firms’ governance at the center, analyzing poor practices, and identifying areas of improvement; and (2) examining, in particular, large companies and looking at poor remuneration policies.

Speaking in a panel discussion on EU markets, Carmine Di Noia, commissioner, Commissione Nazionale per le Societá e la Borsa (the Italian financial supervisory authority) referred to the appetite for environmental, social, and governance (ESG) products. The proof that ethics and culture do matter to investors can be seen in the increasing demand for ESG products, sustainability, and long-term investments. Intermediaries and financial professionals should understand that their interests are also those of their clients. A company with improper conduct can never be successful in the long term. The commissioner, however, said that to have a significant change in behavior, both regulation and self-regulation (i.e., ethical codes developed at the firm level) are necessary.

Competent authorities can contribute to ensuring a high level of investor protection by banning the marketing of complex financial products, which are difficult to understand for consumers. Jean-Paul Servais, chair of the Financial Services and Markets Authority in Belgium and vice-chair of the IOSCO Board, remarked that the Belgian authority prohibited the distribution of particularly complex structured products, namely, those including a derivative component and whose repayment depends on the performance of the underlying instrument. Such measures appeared to have delivered more protection for retail investors. Nine years later, the number of consumer complaints about the complexity of the products they have purchased has dropped by about 60 percent. Alexander Schindler, a member of the executive board at Union Asset Management Holding AG, suggested that some crypto assets also should be banned for retail investors as they may purchase such products without understanding their structure. Panelists also agreed that the industry should have more competent and skillful people, especially staff providing investment advice and other relevant information to their clients. The need for greater professionalism also has been proposed by the European Commission in its recent consultation paper on the review of the Markets in Financial Instruments Regulation and Directive (MiFIR/MiFID II). The Commission asked stakeholders whether the establishment of a certification requirement could increase the education level of investor advisers and managers. In addition, the Commission questioned whether this certification should be issued after the completion of an exam, which would be set out under a EU-wide framework.

In the following panel, which focused on the US market, the debate revolved around the effectiveness of guidance and standards to improve institutional culture and market practices. Raquel Fox, director of International Affairs, US Securities and Exchange Commission, highlighted the fact that guidance works better than rules in many instances, such as artificial intelligence. Regulators today could provide standards that later could be adapted as technology evolves. Moreover, rules do not work best to address culture. Rules do not prescribe the level of detail that is needed in corporate professionalism. Gael Le Coz, global head of Regulatory Development at Janus Henderson Investors, was on the same wavelength as regards the usefulness of guidance practices. She mentioned the Global Investment Performance Standards (GIPS®) as a successful way to promote standards with the goal of encouraging transparency and comparability of investment results. GIPS provides a specific template on the information investment managers must disclose. Unlike regulators, industry organizations have the possibility of issuing more specific and technical standards of conduct.

Finally, Gabriela Figueiredo Dias, chair of the Portuguese Comissão do Mercado de Valores Mobiliários, reflected on the existing complementarity between rules and standards. Bad practices can be tackled effectively by firms setting out standards of conduct to address corporate culture, whereas policymakers can act on marketing, disclosures, and market integrity. Furthermore, the supervisory approach on fiduciary duty needs to be enhanced to consider new aspects, such as the integration of long-term concerns, sustainability, and collective values. Organizations are required to adequately transform their business models to embrace sustainability and operate with a long-term mind-set.

Regaining investor confidence is imperative for the financial services sector to support society. Regulatory authorities and businesses should act now to prevent unethical behavior and enhance financial expertise and conduct. No trade-off between strong culture and profitability can exist in the industry.

Image Credit: © Getty Images/Constantine Johnny

About the Author(s)
Roberto Silvestri

Roberto Silvestri is EU Policy Specialist, Capital Markets Policy EMEA at CFA Institute. He helps reach out to regulators and stakeholders about the positions that CFA Institute holds and unravel the complexities of EU regulation for CFA Institute members.

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