While some of the industry appears to have risen to the challenge of producing and posting a Packaged Retail and Insurance-Based Investment Products (PRIIPs) Key Information Document (KID) online, a significant proportion clearly have not. Amongst those that have, there is now a growing awareness of the ongoing responsibilities that PRIIPs brings and the benefits of implementing an efficient and robust PRIIPs solution. The consequences of non-compliance are apparent in that many fund platforms have suspended those funds that have not produced a KID.
A PRIIPs KID is not a one-off document, but should instead be viewed as a living document. At a minimum, a KID needs to be updated every twelve months. Best practice is to have the consideration of the KID as a standing board item (e.g. at quarterly meetings). In addition, the KID should be updated in advance of any new placement, when issuing new classes of shares / securities to investors, or if there is any material change to the strategy. For example, a fund with a flexible investment policy may trigger a change in the Credit Risk Measure, or a change in the Summary Risk Indicator, and therefore ongoing, regular monitoring is prudent. A medium-sized asset management firm, with multiple funds and share classes, will likely need to maintain over ten KIDs. In turn, versions of these KIDs may now, or in the future, need to be made available in the various European languages of the EU countries in which the funds are being marketed. Furthermore, the PRIIPs and MiFID data, which comprise a KID, now needs to be available to distributors in the form of European MiFID and European PRIIPs Templates (EMTs and EPTs). These too need to be updated on a regular basis.
As with AIFMD, PRIIPs has proved highly complex with some specific challenges detailed below. In addition to the regulatory threat of substantial fines or sanctions for failing to comply, there is the added commercial threat of being dropped by fund distributors.
1. Performance and Risk Calculations
PRIIPs require that four performance scenarios are presented: favourable, moderate, unfavourable and stressed. Interpreting the legislation and applying the prescribed formulas and algorithms is complex. This is especially so, with conditionality attached to the frequency of price data and length of history. Working with performance data to derive a total return, where dividends are paid, and applying financial date logic where price histories are incomplete, is not simple. A further challenge is presenting the underlying calculations and analysis in a way which is accessible and understandable to boards and key stakeholders. In addition to satisfying regulatory demands, it is important that the boards of PRIIPs manufacturers are provided with supporting analysis and reporting in order for them to adequately consider, make an informed decision and represent workings and results to investors and regulators.
2. Cost Calculations
For liquid investment strategies, transaction costs need to be estimated and included within ‘Reduction in Yield’ calculations. This requires both explicit as well as implicit costs, such as ‘slippage’, the cost incurred due to a time lapse between placing and filling an order. Here, there is overlap with MiFID transaction reporting requirements, and also Annex IV turnover requirements. For fund of funds, the weighted average of the ongoing charges of underlying assets needs to be calculated and included with other funds costs.
For private asset strategies, including real estate and private equity, transaction and financing costs need to be estimated. This data is not always readily accessible within financial statements. There can be significant work involved in developing a financial model that breaks out non-recurring items and provides a reasonable basis for presenting average historic and / or forecast cost figures. There are potential synergies to be created with applying the same financial models to AIFMD risk management and reporting requirements.
3. Application to New Funds
For Funds with less than two years of daily prices, a proxy can be used, subject to certain criteria. Clarus Risk maintains dozens of client-specific, as well as in-house, benchmarks from which the Fund Manager can select the most appropriate. The PRIIPs risk engine then seamlessly incorporates proxy data where required.
4. Application to Private Equity and Real Estate Funds
Where a private asset fund is listed, it may be permissible to use price and dividend history as a basis for performance and risk calculations. Where the fund / company is not listed, and therefore is likely a Category 1 PRIIPs, a cash-flow based risk analysis may be applied. There are synergies to be created in applying an AIFMD compliant cash-flow based risk model to meet PRIIPs performance and risk requirements, with subsequent benefits for other reporting requirements.
PRIIPs is highly prescriptive in relation to the disclosures that must be made within a KID, many of which are conditional to the Market Risk Measure and appraisal of liquidity risk. While there is some scope to customise the wording, this must be within the constraints applied to both disclosures and limits on the number of characters that can be used. Furthermore, the document must be available in the language of the country in which the product is marketed. Many of the narratives need to be provided via a European PRIIPs Template (EPT), see below.
6. Provision of KIDs
One of the key aims of PRIIPs is to enable investors to compare performance and cost data across funds. While it is a regulatory obligation, it is logical that manufacturers will want the documents to be both efficient and of a high-presentation quality, whilst also ideally forming part of a suite of risk reporting.
7. Provision of EMTs and EPTs
PRIIPs entails more than the production of a KID and the production of these data templates can be burdensome and potentially prone to inconsistencies. For example, if updates made to the narratives in the KID do not flow through to the EPT because it is a manual rather than integrated process.
About Clarus Risk
Clarus Risk is a FinTech provider of high quality, customisable risk reporting which addresses governance and investor demands, as well as meeting regulatory reporting requirements such as the AIFMD and PRIIPs. Clarus Risk’s core solution, RiskMonitor®, an institutional risk aggregation and reporting solution provides:
· Improved governance and risk management
· Improved investor reporting and transparency
· Flexible regulatory risk solution for UCITS, AIFMs and PRIIPs
· Connectivity to a wide range of counterparties
At the 2017 HFM European Hedge Fund Service Awards, Clarus Risk was shortlisted for: Best AIFM Solution; Best risk management technology provider; Most innovative technology provider
Author: Max Hilton | Managing Director | Clarus Risk
Clarus Risk provide first-class, highly customizable and independent institutional risk solutions. Clarus Risk and Laven Partners are strategic partners and have worked together on different projects for many years, combining expertise on compliance and risk management to help clients achieve their objectives.