Market index reporting requirements for off-beat funds could be amended further under mooted changes to the Financial Market Conducts Act (FMC).
In a guidance note detailing compliance with the FMC market index exemption for licensed managed investment schemes (MIS), which came into force last week, the Financial Markets Authority (FMA) says it has referred more intractable problems with the legal benchmark-reporting requirement back to the Ministry of Business, Innovation and Employment (MBIE).
“To the extent there are broader policy issues with the market index requirement, we are of the view that these would be best addressed through law reform,” the FMA note says. “Fundamental changes to current settings are outside the scope of our exemption powers. As a result, we have discussed with MBIE that the policy behind the market index requirement, and the way it operates, could be usefully reviewed.”
Most of the ongoing index-reporting difficulties arise with “alternative funds, multi-sector funds and restricted schemes”, which struggle to find an appropriate benchmark even under the exemptions gazetted by the FMA last week.
The exemption gives considerable discretion to managers who can’t identify an appropriate ‘market index’ – such as the NZX/S&P 50, for example – to use ‘peer group’ or ‘composite’ market benchmarks as fund performance gauges – or not.
“For example, a peer group index may represent the performance of a collection of hedge funds that invest in asset classes with no recognised market index (eg real estate, private equity or venture capital),” the FMA note says. “This information may be useful to investors in a fund when assessing performance, because the peer group index represents actual results achieved by managers.”
However, managers won’t have to provide any index figures at all in their regulatory fund disclosures if they deem any benchmark information would not “likely be useful to investors when assessing the performance of an exempt fund”.
But the FMA explicitly rules out managers from using ‘absolute return’ benchmarks – such as cash plus 5 per cent.
“These types of index typically do not provide contextual information about the performance of the assets or markets the fund invests in,” the regulatory note says. “An absolute return benchmark does not reflect movements in the markets or assets the fund invests in. Absolute return indices also have a discretionary element set by the manager, and are therefore not independent.”
Managers that rely on the exemption will have to make that clear in disclosure documents including any flow-on effects to performance fees and the mandatory ‘risk indicator’.
“When deciding whether an appropriate market index or suitable peer group index is helpful to investors in assessing the performance of the fund as a whole, managers should consider the prohibitions in the FMC Act in relation to misleading or deceptive conduct, false or misleading representations, and unsubstantiated representations,” the FMA says.
The index exemption could potentially apply to more than 180 funds, representing more than $23 billion invested in assets other than “cash, fixed income, equities, listed and unlisted property and commodities”.