PRIIPs - There’s a new KID in town
11 Sep 2017 - Estimated reading time: 5 minutes
EU regulations on packaged retail and insurance–based investment products (“PRIIPs”) have taken a long and winding path to becoming European law. Originally set to come into force at the start of 2017 the regulations were delayed until January 2018 to ensure the regulations could smoothly pass through the European Parliament.
The pace has picked up since the first half of this year with the Regulatory Technical Standards being finalised in March 2017. These have been followed by a series of Q&As over the summer from the European Supervisory Authorities (ESA), the latest published on 18 August 2017, which have helped to provide clarity on some of the more technical points of the regulations.
What do the regulations cover?
The PRIIPs regulations govern the information a firm must provide to potential investors to help them understand the product they are investing in. The intention is to ensure that the investor is provided with suitable information to help them understand and compare the risks associated with PRIIPS and so make informed decisions. The Key Information Document (“KID”) is to be no more than three A4 pages and must include information on the type of investment, risks and potential returns, what happens on provider default, costs, and how to complain. The regulations provide a KID template to ensure that investments are comparable.
Although much of the information is specified by the regulations there are some technical challenges for firms in producing these documents, in particular the disclosures around the risk and potential returns requires some calculation effort. Any firm that manufactures or distributes products with an investment element will have to comply with these regulations, this includes health and protection products with small investment elements, though pension products are excluded. As a result some firms may be facing calculating stochastic return projections for the first time.
Categorisation and calculation
Firms must decide for each PRIIP product that they manufacture or distribute which category it falls into in order to calculate a market risk measure (MRM) and a credit risk measure (CRM). These two measures are then combined to produce a Summary Risk Indicator (SRI). The SRI is to be reported to potential customers on a numerical scale from 1 (least risky) to 7 (riskiest). The following flow chart illustrates the PRIIP categorisation for the MRM.
Details of the calculation methodologies are set out in the annexes to the PRIIPs regulations, and the Q&As published in August contain example calculations. A key challenge for PRIIPs providers will be ensuring their asset managers can provide enough historic data to enable the calculations to be calibrated appropriately. Where only monthly data is available the MRM has to be increased by one notch, therefore there is a clear incentive to get the most granular data possible.
The CRM is assessed using credit ratings from a recognised ratings agency and for many products will involve a look-through assessment of the credit risk for underlying items within a fund.
The KID must also show a range of potential outcomes for the investment including favourable, unfavourable, moderate, and stressed scenarios. The method for determining these depends on the categorisation of the PRIIP and uses some of the same inputs as the market risk calculations. Again these require a good coverage of historic asset price data meaning that PRIIP providers will need to work with their asset managers to ensure that the data they require is readily available.
Providers of PRIIPs will need to be able to provide potential customers with appropriate documentation from 1 January 2018. There is likely to be a great deal of work to complete in advance of this date, and only a short time in which to complete it.
Hymans Robertson have a wealth of experience working with product providers and would be delighted to work with you to develop a PRIIPs solution. If you would like to discuss this further please contact one of our consultants.