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IR 04-71 ASIC issues guidance on PDS disclosure
The Australian Securities and Investments Commission (ASIC) today provided guidance for product issuers preparing and reviewing Product Disclosure Statements (PDSs). The guidance highlights a number of compliance issues product issuers should take into account to ensure that their PDSs meet both the content and presentation requirements of the law.
The guidance follows an ASIC review of over 100 PDSs prepared before 11 March 2004. ASIC also announced that it plans to conduct nation-wide campaigns into PDSs issued by the financial services industry, and the findings from its recent review will be used to focus on specific disclosure issues for particular product classes.
‘We have noticed that different sectors of the financial services industry have different disclosure problems. Our regulatory approach will be tailored accordingly, to ensure that defects identified in a PDS for one product issuer within a sector are handled consistently for product issuers across that sector’, ASIC’s Executive Director of Financial Services Regulation, Mr Ian Johnston said.
‘We think the best way of achieving consistency is to conduct campaigns based on PDSs for particular classes of products. We will of course continue to review defective PDSs that may be notified to us’, Mr Johnston said.
The attachment to this release outlines the problem disclosure areas that ASIC discovered in its recent review and indicates where ASIC will focus its attention in coming months.
‘We are confident that industry can and will produce better disclosure as PDSs are replaced and improved. Our guidance today is intended to assist product issuers in that process’, Mr Johnston said.
One of the central aims of the uniform disclosure regime introduced by the Financial Services Reform Act 2001 (FSR Act) is to ensure that consumers have sufficient information to help them make informed choices when considering the acquisition of financial products.
Under this regime, PDSs must be provided to all retail clients who are being sold financial products, other than shares and debentures. This includes financial products such as banking, life and general insurance, superannuation, derivatives, unit trusts and other managed investment schemes. Shares and debentures continue to be sold using prospectuses.
Given the breadth of the FSR regime, the law creates a principles-based framework for determining the content of disclosure documents. The law also states that the information contained in disclosure documents must be worded and presented in a ‘clear, concise and effective’ manner. ASIC’s goal is to ensure compliance with both of these objectives so that the desired outcome, the informed consumer, is achieved.
ASIC has the power to issue a stop order if a PDS is ‘defective’. A defective PDS includes a document that:
- contains a misleading or deceptive statement;
- fails to include certain required disclosures; and
- is not worded and presented in a clear, concise and effective manner.
ASIC will consider taking regulatory action where the manner in which information is presented in a PDS actually impedes the consumer from making an informed decision about whether to acquire a financial product.
For more information on ASIC’s policy in relation to PDSs, see Policy Statement 168 Disclosure: Product Disclosure Statements (and other disclosure obligations) [PS 168], which includes the Good Disclosure Principles. [PS 168] is available from the ASIC website via www.asic.gov.au/fsrpolicy or by calling the ASIC Infoline on 1300 300 630.
End of release
Attachment to Information Release [IR 04-71]: ASIC issues guidance on PDS disclosure
This attachment describes problem disclosure areas revealed during the recent ASIC review of PDSs. ASIC encourages product issuers to learn from the compliance pointers outlined in this document, and to take the opportunity to make their disclosure documents more meaningful to consumers.
Clear, concise and effective
ASIC has taken action on PDSs where the placement of information misleads consumers. Since 18 December 2003 ASIC has also had the power to issue a stop order on a PDS that is not worded and presented in a manner that is clear, concise and effective.
Product issuers should remember the following tips:
- Easy to understand - Information must be worded clearly and concisely. Jargon should be avoided wherever possible and terms should be clearly defined within a document.
- Easy to use - Navigational aids, such as tables of contents and clear signposting, can help consumers to find information in the PDS more effectively.
- Upfront summary - An executive summary highlighting important information is a useful tool, particularly in long documents.
- Effective cross-referencing - Reference to additional information elsewhere in the PDS or in other documents must not be misleading and, in particular, the page numbers and other references need to actually direct the consumer to the right place in the document.
- Equal prominence of benefits and risks - Disclosure of information about product risks should have equal prominence to information about product benefits.
Length of PDSs
ASIC has noticed numerous PDSs in the market that are long, some perhaps unnecessarily long. The industry has also expressed concerns relating to the length of PDSs.
The length of PDSs is ultimately a matter within the control of the product issuer, who determines what products it wishes to offer to retail clients, how complex the product is, how the product is packaged and how many financial products are offered in one PDS. However, product issuers who produce lengthy PDSs need to ensure that a PDS is not so lengthy that it impedes a consumer’s ability to extract the information needed to make an informed decision about the financial product on offer.
For example, making a 100-page PDS available in limited view format only on a website, without the capacity to print the entire document, presents consumers with real obstacles in understanding and making informed decisions about the product. ASIC has seen a number of PDSs that print with significant sections of the document black or blank. ASIC will be examining practices relating to electronic disclosure in the future.
Complexity of financial products
ASIC has observed that there are some very complex products being marketed to retail clients. Compliance with the content requirements relating to disclosure of significant benefits, significant risk, the cost of the product, and significant characteristics or features is more onerous when the product or products on offer are complex. This necessarily contributes to the length of the PDS, since the consumer needs to be informed about all of these matters in sufficient detail to understand the product. The obligation to ensure that disclosure is clear, concise and effective is even more important in these cases, as the complexity of the product itself has the potential to confuse consumers unless disclosure is handled carefully.
Specific PDS obligations for multiple product issuers
ASIC has reviewed a number of PDSs that contain multiple financial products or that are prepared by multiple product issuers. There are specific compliance obligations that all multiple product issuers need to meet.
Section 1013A(3A) of the Corporations Act 2001 (the Act) states that a PDS for a product that is not jointly issued may be prepared by a single product issuer only.
However, Class Order [CO 03/1092] Further relief for joint product disclosure statements permits two or more product issuers to prepare a joint PDS if the conditions of the class order are satisfied. These conditions aim to avoid client confusion by requiring the joint PDS to state:
- that the PDS covers two or more separate financial products;
- the identity of the issuer of each financial product it covers;
- that each issuer takes full responsibility for the whole PDS;
- which external dispute resolution schemes are able to deal with complaints relating to each of the products covered by the PDS; and
- how clients may exercise their cooling-off rights, if any, for each of the products.
In reviewing a number of multiple product issuer PDSs, ASIC observed widespread non-compliance with Class Order [CO 03/1092], particularly in relation to the inclusion of a statement that each product issuer takes full responsibility for the whole PDS. ASIC is therefore considering its regulatory options.
Presentation of information is also a concern where there are multiple product issuers of a PDS. ASIC has observed that it is not always clear which product issuer is providing different benefits specified in the PDS, particularly where they are within the same class of financial products, such as life insurance. ASIC is liaising directly with product issuers and relevant industry associations about its expectations in this area.
Fees and costs findings
ASIC has been concerned about the disclosure of fees and costs for some time. ASIC commissioned Professor Ian Ramsay, Director of the Centre for Corporate Law and Securities Regulation at the University of Melbourne, to report on the disclosure of fees and charges in managed investments. The ‘Ramsay report’ (Disclosure of fees and charges in managed investments, review of current Australian requirements and options for reform) was published in September 2002 and recommended that ASIC develop a common format for the disclosure of fees and charges.
After extensive consultation with industry and consumer groups, ASIC released a Fee Disclosure Model in August 2003, which set out good practice for the disclosure of fees and costs in a discrete fees section of a PDS. The model aimed to cover all financial products with an investment component, such as managed funds, superannuation funds and investment-linked life policies and bonds, including friendly society products. The model featured a ‘see at a glance’ table format, with consistent, agreed terminology and included additional important information outside the table, such as worked examples.
In its recent review of PDSs, ASIC monitored the use of its Fee Disclosure Model, in addition to the quality of fee disclosure generally. Consistent with the Fee Disclosure Model principles, ASIC expected to see information about the issuer’s capacity to vary fees and charges and, where applicable, details of maximum permissible fees.
The following are some examples of poor fees and costs disclosure in relation to specific PDSs that ASIC reviewed:
- Inconsistent terminology - The PDS used different terms for the same fees in describing the management expense ratio (MER). The use of the different terms meant it was difficult to determine what fees were included in the MER.
- Buy-sell spread - The buy-sell spread was not disclosed in the fees section of the PDS, and the PDS failed to disclose the effect of the buy-sell spread, that is how the spread was applied to a particular investor, and how it related to other fees charged in respect of the product. (A ‘buy-sell spread’ is the expression used where different unit prices apply depending on whether the investor is entering or exiting the product. The differential is meant to represent transaction costs in buying and selling the underlying investments as a result of the entry and exit of investors.)
- Changes to fees - Many PDSs disclosed that the issuer may change the levels of fees but did not disclose any maximum level of fees. If a maximum exists, it should be disclosed in the PDS.
- Use of ASIC model - The PDS stated that the ASIC Fee Disclosure Model was used but then, contrary to the model, failed to disclose the issuer’s right to change fees and the period of advance notice of any such changes that would be provided to clients. Further, the fees and charges section did not disclose whether the amounts stated were inclusive or exclusive of GST.
- The product issuer used the Fee Disclosure Model for the loan component of a financial product on offer, but did not apply the model to the more complex aspects of the product.
- Misleading omissions- A managed fund’s significant fees table in its PDS indicated that the withdrawal fee was ‘nil’, but the constitution allowed it to be four per cent, and the PDS did not disclose this fact. The table did not disclose that nil contribution fees could be increased with notice, and the PDS implied that the contribution fee could only be increased with members’ approval.
- Differential fees - The PDS provided for differential fee treatment of investors in breach of the terms of ASIC’s differential fees class order relief: see Class Order [CO 03/217] Differential fees.
- Costs - The PDS contained no costs information about the optional life insurance on offer via a superannuation product.
- Fees payable to related parties - The PDS did not disclose sufficient information on fees payable to a related body corporate of the issuer.
- Insufficient detail - The PDS stated that the only costs consisted of premiums and applicable government taxes. There was no information about the factors influencing these costs or how this information could be obtained.
Some of these concerns would not arise if industry fully complied with the Fee Disclosure Model.
In June 2004, ASIC released a revised and improved version of the ASIC Fee Disclosure Model in response to consumer feedback. The Government announced in June 2004 that it will mandate this version of the ASIC Fee Disclosure Model, subject to further consumer testing, together with the Government’s proposed single fee measure for comparative purposes, and a consumer warning about fee impact. ASIC will monitor compliance with the new dollar disclosure requirements, unless ASIC relief applies, and with the Government’s fee package, once it becomes law. The dollar disclosure requirements mean that costs and benefits must be disclosed as an amount in dollars, unless ASIC determines otherwise on the basis that it is not possible, unreasonably burdensome or not in clients’ interests. See Information Release 04-67
Complying with other PDS content requirements
In its review of PDSs, ASIC also considered product issuers’ compliance with the main content requirements for PDSs, set out in s1013D of the Act. ASIC recognises that these directed disclosure obligations are essentially non-prescriptive and principles-based. The degree of disclosure is essentially a matter of judgment. However, ASIC’s review of PDSs has shown that product issuers need to provide more specific detail in some areas and in particular, the disclosure of risks associated with certain investments.
Insufficient disclosure of risk
ASIC has taken action on PDSs when disclosures about investment strategy and risk are inadequate, and when information about the liquidity risk and the capacity to redeem are not fully disclosed. ASIC has queried issuers of derivatives regarding inadequate disclosure of liquidity risk, the effect of margin calls and whether the guidelines for derivative investment are fully disclosed.
The level of risk disclosure will differ between different products. Complex products that are not well-understood need sufficient explanation of risks to ensure consumers understand how the product works. Industry participants should not assume that consumers understand the risks involved in complex product offerings.
Some examples are highlighted below.
PDSs for derivative products often did not disclose risks associated with investing in derivatives. Further, some PDSs did not disclose the extent to which derivatives were used for each financial product on offer, the purpose for which they were used and the types of derivatives used. In particular there was no mention of whether derivatives were used for leverage/gearing purposes, the effect of margin calls on derivative exposure, or the investment guidelines (covering exposure limits and selection and monitoring procedures for derivative transactions) for the use of derivatives in the products.
Some PDSs failed to adequately disclose the specific risks underlying hedge fund investments.
Other risk issues
- Defaulting mortgages - The PDS failed to disclose how investors would be notified of defaulting borrowers.
- Development loans - The PDS did not contain adequate disclosure of the risks associated with investing in development loans, or the proportion of the loan book that was invested in such loans.
- Exchange-traded funds - The PDS did not adequately disclose the risks of investing in an exchange-traded fund. Such risks include related party transactions, arbitrage, liquidity and suspension of the funds.
- Role of market maker - The PDS omitted to disclose adequate information about the role of the market maker in operating the schemes, including their role in setting prices and maintaining any arbitrage between the listed and non-listed units.
- Borrowings - The PDS did not disclose risks associated with the fund’s borrowings.
Consumer rights - Cooling-off periods and dispute resolution
Product issuers should ensure that disclosure of key consumer information such as contact details, cooling-off rights and access to external dispute resolution schemes is accessible and clear. This is particularly important where there are multiple product issuers in one PDS and different information applies to each product issuer, or where an investor-directed portfolio-like service (IDPS) affects the cooling-off rights applicable to an underlying product.
Typical concerns in these areas include the following:
- Dispute resolution - The PDS did not contain any information on dispute resolution.
- The PDS did not contain any contact details for the product issuer’s external dispute resolution scheme.
- Cooling-off - The PDS contained a statement that the cooling-off period applied from the date of the application, contrary to the requirements of the Act, which provide that the cooling-off period starts from the time when the client receives confirmation that they have acquired the product.
- The PDS referred to cooling-off rights, but as investors are only able to access the fund through an IDPS, they would only be able to exercise cooling-off rights against the IDPS operator, rather than the product issuer.
- The PDS was misleading as it indicated there was a 14-day cooling-off period that did not apply where the scheme was illiquid.
- The PDS failed to disclose the timeframe in which applicants must exercise their cooling-off rights under a timeshare scheme and the cooling-off statement (required by ASIC’s class order relief) was not referenced in the body of the PDS, but on an unnumbered page at the end of the PDS.
Past performance and future forecasts
Unsubstantiated financial projections
All representations made about future financial performance, particularly long-range information, must be based on reasonable grounds. They must not ‘go beyond’ the experts’ reports on which they are based.
ASIC continues to query PDSs that do not state underlying material assumptions, including implied assumptions, the risks of the prospective performance targets not being achieved and warnings about the reliability of prospective financial information.
Benchmarks must not be misleading
Benchmarks should be capable of objective assessment. They should assist consumers to make an informed assessment about the investment returns that might reasonably be expected. They should be used in a way that helps consumers decide whether to acquire the product. They should not be used in a manner that may mislead consumers. If a benchmarked objective represents no more than a targeted return, this should be expressly stated.
ASIC is also concerned that interactive calculators provided to consumers to show the impact of variables on future financial performance should not be misleading.
Typical forecasting concerns that have been detected in PDSs recently reviewed by ASIC include the following:
- Future forecasts - The PDS contained statements made about the future performance of the fund without including any reasonable basis for making those statements.
- Hypothetical returns - Graphs depicting the indicative performance of the investment were misleading because they compared actual performance of underlying investments with the gross hypothetical returns derived from other information and strategies for investment.
Past performance figures should not be based on hypothetical or reconstructed past performance. They should not be used to overstate performance where market changes mean future returns will be significantly less. PDSs should include appropriate warnings, and information about the impact of changes in strategy, such as the appointment of a new investment manager.
ASIC is also concerned about PDSs containing comparisons with unlike investments. This includes, for example, PDSs that compare mortgage schemes with products such as term deposits and other deposit-type products.
The ASIC review of PDSs has also shown that some product issuers offered to issue interests in financial products when they had no AFS licence authorisation to deal in or advise on those products. ASIC will continue to pursue such product issuers to ensure that they either obtain appropriate licence authorisations or withdraw their PDSs from the market.
Socially responsible investment (SRI) disclosure
From 11 March 2004, ASIC began monitoring compliance with the guidelines for disclosure where labour standards or environmental, social or ethical considerations are taken into account in making investments. For more information on these guidelines see Media Release [MR 03/405] ASIC releases final socially responsible investing guidelines.
The guidelines state that where labour standards or environmental, social or ethical considerations are taken into account, the PDS must tell consumers which matters are taken into account, and how they are taken into consideration, so that consumers can clearly understand the approach. The PDS must also clearly state where such matters are not taken into account.
Product issuers must comply with the guidelines after the expiry of the transition arrangements. This means that the guidelines apply to all PDSs dated on or after 11 March 2004 or given to a person on or after 11 March 2005.
During the PDS review ASIC noted that two PDSs had no SRI disclosure at all. ASIC reminds product issuers that if they choose not to take into account labour standards or environmental, social or ethical considerations, this fact must be stated in the PDS. There is a minimum legislative requirement under s1013D(1)(l) of the Act that, for investment products, requires disclosure of the extent to which labour standards or environmental, social or ethical considerations are taken into account in the selection, retention or realisation of the investment.
Use of the term ‘guarantee’
It is potentially misleading to use the word ‘guarantee’ to convey that the investment risk for providing an income stream lies with the product issuer, rather than with the investor. Without further explanation, an investor could be confused, and may infer that the income stream is guaranteed in the sense of being fully secured against loss.
Section 1013C(6) of the Act prohibits a statement in a PDS that gives the impression that a financial product is guaranteed or underwritten by another person if the person has not in fact guaranteed or underwritten the product.