ESMA does not recommend complete ban on inducements for retail products across the EU

The European Securities and Markets Authority (ESMA) today published its advice to the European Commission (EC) on inducements and costs and charges disclosures under MiFID II.

In the advice, ESMA encourages the Commission to conduct further analysis on the topic of inducements, which is key for the protection of investors, and proposes some changes to the regime mainly aimed at improving the clients’ understanding of inducements.

At this moment, ESMA does not recommend to the Commission to ban inducements completely for all retail products across the Union.

Two jurisdictions – the Netherlands and the United Kingdom, have already banned inducements in relation to retail investment products with a certain success, ESMA notes. Indeed, in accordance with the view of the AFM, the inducements ban encourages the distribution of more cost effective investment products to consumers, reduced conflicts of interest for advisers, while increasing competition between product manufacturers to the benefit of consumers.

However, if a Union-wide inducement ban were to be introduced, the impact would likely vary across Member States based on the prevalence of the existing distribution models. This is because such a ban may not have the desired consequences depending on the structure of specific national markets. In the case of Member States with bank-centric distribution models, there is a risk that, because of the loss of incentives to sell third party products, banks could react by increasing closed-architecture models.

Inducement bans could be circumvented by firms through “vertical integration practices” between banks and asset managers and only group products might be offered to end-clients. In this case, the bank would provide a service (the distribution of its products) to the management company which, instead of paying the bank through a fee rebate, would pay the bank by way of a dividend or a capital reserve at the level of the management company.

Furthermore, certain retail clients’ access to advice might be impaired.

Conversely, the inducement ban may lead to the growth of the fee-based independent advice sector across the Union. In the short term, banks might decide not to offer advisory services to retail clients and redirect them to execution-only services. In the view of the Dutch regulator, this may also lead to an uptick in portfolio management and robo-advice services.

ESMA is of the view that the Commission should first assess (i) the impact the MiFID II inducements regime has had on the distribution of retail investment products across the Union, (ii) the impact of such a ban depending on the different distribution models existing in the Union and (iii) what potential additional actions could be taken to counterbalance the risks of undesired consequences linked to a ban on inducements.

Also, banning inducements for MiFID products may create an uneven playing field with other types of products (for instance, insurance products) and inducements should thus be considered more globally and not just under MiFID II, ESMA notes.

Therefore, at this stage, ESMA recommends to the Commission to rely on alternative options to improve clients’ understanding of inducements and the functioning of the existing MiFID II regime.