On 3 November 2021, the Monetary Authority of Singapore (“MAS”) issued a consultation paper on proposed changes to the classification of certain investment products as complex products entailing enhanced safeguards when distributed to retail investors. MAS is also proposing changes to increase retail investors’ access to diversified investment funds. The consultation closes on 15 December 2021.
The complex products regime was introduced to help retail investors better understand the features and risks of complex products before transacting in them. Under the regime, MAS prescribes a list of products which are well-established in the market and have terms and conditions generally understandable by the market, termed Excluded Investment Products (“EIPs”). Products that do not fall within the prescribed list of EIPs are regarded as more complex products. These are termed Specified Investment Product (“SIPs”) and must be sold with enhanced distribution safeguards, such as requiring intermediaries to assess a customer’s investment knowledge and experience before the customer invests in an SIP.
MAS is seeking to enhance and update the complex products regime as financial innovation has led to an increasing number of investment products with more complex risk-return profiles being manufactured and marketed to retail investors, the features of which they may not fully understand. The proposals relate to the EIP/SIP classification of collective investment schemes (“CIS”), debentures, perpetual securities and preference shares, and the distribution safeguards that apply to the sale of SIPs.
Collective investment schemes
As all CIS offered to retail investors (authorised and recognised CIS) are well regulated under the Securities and Futures Act and the Code on Collective Investment Schemes, MAS proposes to classify as EIPs all authorised and recognised CIS (and correspondingly investment-linked policies (ILP) sub-funds that invest in authorised/recognised CIS), except for a small group of more complex funds. This will make it easier for retail investors to invest in diversified and professionally managed funds, including exchange traded funds (ETFs).
The complex funds are those that employ alternative investment strategies, or embed unique features not typically encountered in traditional funds. Such funds are currently subject to additional disclosure requirements, e.g. highlighting that the product is meant for sophisticated investors and including important information to facilitate investors’ assessment of the unique features and difference in the risk profile of these products compared to traditional funds. MAS is of the view that such complex funds should continue to be classified as SIPs and subject to enhanced distribution safeguards as retail investors may be less familiar with them and more likely to require prior financial knowledge or experience to be able to understand the investment risks.
Currently, all debentures are classified as EIPs, except for asset-backed securities and structured notes. As such, there is a range of debentures with differing features that may be offered to retail investors as EIPs, including debentures with the following features:
- The interest payment is not solely based on a single fixed or floating rate, e.g. where the return is dependent on the performance of a defined asset pool.
- The debentures are convertible, e.g. where the debt may be converted to equity.
MAS proposes to classify debentures with the aforesaid features as SIPs. This is because most retail investors with no prior financial knowledge or experience in dealing with such investment products may commonly understand debentures as an instrument that promises the return of principal with regular interest payment and may not fully appreciate the added complexity of debentures with such features.
Perpetual securities and preference shares
Perpetual securities are debentures which the issuer may redeem, or not at all, at its discretion, and do not have a specific redemption or maturity date where the principal amount will be repaid. The issuer may also have the discretion to defer or skip interest payments. Perpetual securities are currently classified as EIPs.
MAS observes that there may be investors who do not fully understand the features and risks of perpetual securities and seeks comments on whether perpetual securities should be classified as SIPs instead and be sold to retail investors with the distribution safeguards for SIPs. This would mean that retail investors would have to be assessed by intermediaries as to whether they have the prior financial knowledge or experience to understand the features and risks of perpetual securities before they are able to make the investment.
Another option would be to further assist the retail investor to better understand the features and unique risks of perpetual securities, e.g. by enhancing the marketing and disclosure requirements on perpetual securities to ensure that the key features and risks are adequately highlighted. The enhanced requirements would include disallowing perpetual securities from being marketed or described as bonds, and requiring the inclusion of cautionary statements in advertising material that highlight the key features and risks of perpetual securities.
MAS is also reviewing the current EIP classification of preference shares given the similarities between preference shares and perpetual securities (e.g. no obligation to repay the principal) and how they are often thought of as similar products. MAS seeks comments on whether to align the EIP/SIP classification of preference shares with that of perpetual securities and subject the sale of these products to the same safeguards.
Currently, financial advisers (“FAs”) are required to assess a customer’s investment knowledge and experience before allowing the customer to transact in an SIP, via the Customer Account Review (“CAR”) for listed SIPs, and the Customer Knowledge Assessment (“CKA”) for unlisted SIPs.
To streamline regulatory requirements, MAS proposes to remove the requirement to conduct a CKA or CAR when FAs advise on an SIP transaction. FAs may instead integrate the consideration of the customers’ knowledge or experience in SIPs in the suitability assessment when making a recommendation on SIPs. Approval of the FA’s senior management will still be required if the customer chooses to transact in an SIP which is not recommended by the FA.