Product intervention

Consumer protection agenda:

Global regulatory reform
1 Product intervention Consumer protection agenda: Global regulatory reform

In pursuit of its objectives to protect
consumers, the Financial Conduct
Authority (FCA) is taking an increasingly
interventionist approach to product design,
governance and oversight with the aim of
anticipating consumer detriment where
possible and stopping it before it occurs.
There is no doubt that this is high on the regulatory agenda.
The FCA is already asserting its authority in this area where
it believes the approach being taken by firms to product
design, approval, delivery and review is not sufficiently
robust. Interventions that have already taken place include:
Intervention and the product
life cycle: The FCA’s approach
The FCA expects firms to address all parts of the product life
cycle in their product governance arrangements. Firms need
to demonstrate that they have tested their products not only at
launch but on an ongoing basis to identify product features that
may cause customer detriment, and that mitigating actions are
taken. The FCA has set out its robust approach to monitoring
firms’ behavior in this regard by introducing Temporary Product
Intervention Rules (TPIRs). This will give the FCA the power to
intervene when significant risks to customers that require prompt
action are identified. The ways in which the FCA would use its
powers would include the following actions:
►► Restricting the use of certain product features

►► Instructions to amend products ahead of launch ►► Restricting the promotion of products to certain
consumer groups
►► Requests for copies of product governance processes
►► Requiring a product to be removed from the marketplace
►► Requests for explanations and clarification of
product features The illustrative life cycle shown below is indicative of the stages
in a product’s life cycle where controls are needed. It is not
It has also been given new statutory powers to ban products on
designed to be exhaustive but indicates the approach firms
a temporary basis without consultation. Product intervention
should take in terms of the development and management of
will apply across the life cycle of a product, and firms will need
their product portfolios.
defined controls in place to manage products at every stage.

Product
development

Business

Investor

The rationale for intervention Closure level risk

Product launch

Retail regulation traditionally focused on information provided at

Risk &
the point of sale on the premise that, if sales processes are fair and strategy
Model

product disclosures are transparent, the results would be effective

del

Corporate Product
Mo

customer protection. However, “waves of major customer level risk level risk
detriment”, such as PPI and endowment mis-selling and interest
rate hedging products, show that reactive regulation has not been
sufficiently effective. Product review Business Product life
Product intervention is based on the premise that disclosure is not
sufficient given consumer behaviors. It is about moving toward
being proactive rather than reactive. The ultimate intention is
to complement the traditional focus on sales and marketing
“The FCA will have a fundamentally different approach
and the disclosure of information throughout the product life
cycle. The product intervention regime recognizes that decisions to that of the FSA in the way it intervenes to mitigate
taken by firms when designing new products, and managing risk to financial services. The FCA will have a lower
existing products, have an impact on subsequent distribution and
risk appetite for issues affecting a whole sector, sub-
consumer outcomes. The interventionist regime will apply to all
product types and sectors. sector or type of product — it will be less prepared to
Product intervention is an integral part of the FCA’s consumer see detriment actually occur, instead seeking to act in
protection strategy, which is closely aligned to what is happening a more preventative manner.”
throughout Europe. It is designed to ensure the retail market works
Product Intervention Feedback on DP11/1
better for consumers and to increase confidence in the financial
services sector. Firms need to be prepared for the challenge.

Product intervention Consumer protection agenda: Global regulatory reform 2

Product intervention Strategy and business model
throughout Europe A firm’s strategy sits at the heart of the firm’s ability to
successfully meet the regulator’s objectives and should be
The European Union and Member States across Europe are
reviewed alongside its business model to ensure both are aligned.
also responding to the financial crisis and enhancing customer
protection through EU-level regulation. MiFID II, the Insurance The regulator will want to review how a firm’s strategy is
Mediation Directive and the PRIPS proposals will define rules reflected in its business model and will interrogate firms’ business
relating to product transparency (pre-contractual disclosure) models to identify the conduct risks that may be inherent in them,
and selling practices. These include: often using a “follow the money” approach. Firms will also need
to evidence how they have developed their product strategy.
►► Powers to ESMA to intervene in local markets to ban certain
This is likely to include evidencing:
products and practices temporarily
►► Who their target market is
►► New powers for national regulators to ban the sale
of products where there is evidence or potential for ►► The rationale for the products being sold
customer detriment ►► Why the method of distribution is appropriate
►► Increasing the requirements to prevent complex funds ►► The systems and controls a firm has to ensure the product is
being sold without an assessment of their appropriateness meeting the desired objectives
for the client
However, the firms’ responsibilities do not stop there. A firm
►► Enhanced definition of what constitutes a non-complex product should build into their product business model and strategy
sale where a retail suitability assessment is not required post-launch reviews and feedback loops to ensure the product is
►► Defining rules relating to product transparency working in practice and getting into the hands of the right people.
(pre-contractual disclosure) Lastly, firms will need to build in the ability to remove products in
response to imminent customer detriment.
Ahead of EU-level regulations, national regulators such as Belgium
and Denmark have put in place their own initiatives to strengthen
customer protection.
In addition, European Supervisory Authorities have published
several documents on the subject of product intervention, most
notably the Joint Position on Product Oversight and Governance
Processes, which outlines key considerations that should be
considered by firms designing and/or distributing products. In
addition it highlights the importance of reviewing these processes
and ensures correct operations of these products on the behalf of
their customers.

3 Product intervention Consumer protection agenda: Global regulatory reform

Value for money ­— pricing
The FSA’s 2012 Retail Conduct Risk Outlook continues to highlight
concerns previously raised in their 2011 Retail Conduct Risk
Outlook, particularly about products that may have limited value.
These include:
►► Bundled products
►► General insurance products that have limited use to customers
A firm will need to consider how the pricing of products will
feature in their business model. The FCA has expressed concerns
about products that generate high revenue for firms but offer
little value to customers: “the regulation of firms was not able to
overcome the inherent conflict of interest that arises in financial
transactions. PPI is a clear example of this —­hugely profitable
to firms; of limited value (most of the time) to individuals.”
Another example of abuse with regards to value for money of
pricing includes the recently emerged toxic loans that were
bundled on to mortgage securities sold by a leading investment
bank. Currently it faces a record-breaking £8b fine with regulators.
The impact surfaced during 2008 when the housing market
plunged, resulting in major customer detriment that helped lead to
a financial crisis.
Product intervention Consumer protection agenda: Global regulatory reform
Product governance
The importance of product development and product manufacture
within the governance arrangements of the firm need to be
considered. Firms must ensure that governance arrangements
take full account of product issues and that oversight and
reporting arrangements are fit for purpose. Lack of governance
in particular with regards to product development and marketing
processes increases the risk of firms developing poorly designed
products. This, in turn, would inevitably lead to mis-selling,
highlighting the need for firms to place product governance at
the core of their business models and thus ensure that strategies
aligned with governance are integrated and embedded.
The control environment
Firms should not underestimate the importance of understanding
the life cycle of each product they manufacture, market, sell,
and/or administer, to avoid customer detriment and large-scale
remediation exercises. A complete understanding of the target
market, risks and demographic that is actually purchasing the
product is vital. Firms need to ensure controls are in place to
manage these issues throughout the life cycle, and that full
account is taken of risks that, when aggregated, indicate the risk
profile of a product is higher than was originally foreseen.
4
Existing products also need to be considered and so firms need to
take account of the different strategies to be adopted depending
on whether the product is existing, part of the legacy book, or in
development. Some of the differing factors that need to be taken
into account include:

New products Existing products

Product stress testing Risk identification

Outcome testing Distribution strategies

Product profitability Ongoing review

Target market assessment Product performance

Management information Management information

Operational requirements Customer service offering

Legacy books of business may pose particular problems for firms

where the products within them have not been subject to the same
strict governance processes that the FCA now expects. Firms
need to ensure they fully understand any product risks within
their legacy books of business and that they are tackled where
and when necessary. In addition, products that are closed to new
business but are open for existing customers to “top-up” or switch
from, will also need to be considered in light of current regulatory
standards and managed appropriately, where applicable.

In addition, products that are closed to new business but are open
for existing customers to “top-up” or switch from will also need
to be considered in light of current regulatory standards and
managed appropriately, where applicable.
Firms need to pay particular attention where legacy products are
outside their current product strategy or where products are sold to
groups of customers that do not fit their strategy for ongoing market
penetration. These issues may result in the firm taking on customers
whose needs they are unable to address in the longer term, or
whose expectations may not be met by either the product they have
purchased or the service they receive. The current low-interest-rate
environment in the UK is bringing this issue to light as investors
move out of deposits into structured and other products that carry
an increased investment risk to chase potentially higher returns.

5 Product intervention Consumer protection agenda: Global regulatory reform

Product intervention Consumer protection agenda: Global regulatory reform 6
Common points of failure
In our experience, there are a number of common points of failure ►► Failure to disclose: firms must ensure that all disclosures
across both development and management activities, including: regarding performance of the product due to prevailing market
conditions have been communicated clearly and in good time
►► Not identifying the target market: firms frequently market
to customers. This includes clear statements about how the
products without a clear understanding of who should be
product is likely to perform in different market conditions
purchasing the product and why it is suitable for that group.
and drawing particular attention to the fact that reliance on
►► Failure in risk profiling: firms fail to risk-rate products past performance of the product is not always an indicator of
appropriately, which can lead to products being sold to the future performance.
wrong customers, who are unaware of the potential volatility
►► Pricing structure: firms should review the pricing structures
of the product or the potential risk of loss of investment.
of previous, existing and new products to ensure that
For example, structured complex products being marked
hidden mark-ups are not embedded within the pricing where
as “medium” risk targeted to customers whose level of
there is little or no real value to the end customer or that
sophistication is out of line with the risk profile of the product,
particular component.
i.e., a customer with a low risk appetite.
►► Excessive reliance on add-on products: “Add-ons” refer
►► Failure to recognize responsibility of a product by those
to any product sold alongside another product, which are
in the distribution chain: even when a value chain is heavily
also commonly known as packaged products — for example,
intermediated, the FCA doesn’t expect that those further
current accounts with added mobile phone insurance or travel
down the chain to say that they have no responsibility for the
insurance. The terms for the tied product can be, or become,
end client — firms will be expected to show that they have
uncompetitive and may not be required by the customer.
considered their target market and take steps to ensure that
Institutions rely on these ancillary revenues to increase
the product is not sold outside that market. The distribution
the profitability of the main product (due to the low-cost
strategy needs to be appropriate; they need to be honest with
production and easy maintenance of the tied product),
distributors about the nature of the product and have some
but often without ensuring that appropriate controls and
responsibility for ensuring that the intermediaries understand
assessment are in place for their sale. The FCA has called for
and are competent to offer such products. In addition, it
tighter regulations on the sale of these add-ons in particular to
is required that all those within the chain are aware of and
insurance policies.
understand any changes in the nature of the product.
►► Failure to monitor who is purchasing the product: where the
►► Failure to understand distribution chain: confusion between
target market has been identified firms fail to ensure it is being
manufacturers and distributors of products may lead
sold to that market.
to required disclosure of product features and risks not
effectively relayed from manufacturers to distributors as well ►► Failing to act where it is identified that a product is being
as miscommunication regarding correct target audience for mis-sold: the FCA has already identified that firms are slow to
products. In addition, a lack of clarity as to who is accountable remove or amend products where failings are identified and
for each stage of the distribution chain may arise. conduct adequate remediation on consumers impacted.
►► Fee charging structure: firms need to clearly disclose ►► Underestimating product sales following launch: where
the end-to-end fee charging structure of products, where take-up is underestimated customer service offerings suffer.
applicable, to customers to ensure that prices are clear and
►► Not investigating reasons for higher-than-expected sales:
transparent from the beginning of the transaction. The level of
higher-than-expected sales may be an indication the product is
disclosure should have due regard to the sophistication of the
being purchased by groups of customers outside the intended
target customer.
target market.

7 Product intervention Consumer protection agenda: Global regulatory reform

►► Reward and incentivization: strategies that do not take ►► Insufficient outcomes testing and management information:
account of the need to balance quality against sales firms need to ensure rigorous outcomes testing to see how
performance may lead to inappropriate sales. products are likely to behave in different market conditions
as well as to monitor whether products have been sold
►► Failing to update product guidance to take account of
appropriately to the right customers. The appropriate analysis
economic factors: factors outside of the firms’ control can
of this information should be used to inform customers and
often lead to products becoming attractive for groups they
others in the value chain and where relevant to drive ongoing
weren’t intended for or unattractive to groups to whom they
improvements for the customer and the firm.
have already been sold.
►► Not tracking regulatory changes: firms will need to keep
►► Ineffective Root cause analysis: failing to take account of
track of the different regulation being implemented by their
expressions of dissatisfaction in identifying product failings.
home regulators, the EU and national regulators where their
►► Failing to include the option to withdraw from products products may be sold.
or markets even where management information
►► Due diligence: firms will need to ensure the appropriate level
indicates this should be considered: this should be actively
of due diligence is undertaken to understand the potential
considered, particularly where existing strategies are causing
product risks that may be inherent in a proposed acquisition.
customer detriment.
►► Failure to adequately stress-test products: firms will need to
stress-test products under different scenarios. This should not
just be at product development stage but at different stages
once the product has embedded.

Product and customer strategy

Development Checkpoint Design and Checkpoint Post-launch Regular Issue

Launch

Closure
instigation one build two review checkpoints identification

Initial business Distribution Product design Review/challenge Proposals for

MI developed MI review Run off plan
case proposal strategy ratified key metrics resolution

Product Market testing Distribution Training — sales Servicing issues Sales vs. target Ongoing client
specification outcome strategy ratified and service identified market review management

Target market Key metrics Marketing Sales issues Distribution strategy/

Market testing
identified defined material identified Incentives

Go/no go Go/no go
decision decision

Defined governance process including stress and scenario testing and profitability reviews

Product intervention Consumer protection agenda: Global regulatory reform 8

“I do not expect us to use this power frequently, but
both industry and consumers need to be clear that we
will not hesitate to use these powers where we have
serious concerns.”
Martin Wheatley, Chief Executive of the FCA. March 2013

Recommended next steps

While there are a number of commercial pressures and
regulatory priorities, as a minimum, firms should focus on
the following:
►► A review of their product strategy and business model
►► A review of their product governance arrangements
►► A review of product development processes
►► Existing product book review
►► Closed-book reviews
►► A review of the risk rating of products How EY can help
►► Define MI requirements to support ongoing We have the most integrated EMEIA Financial Services
product governance practice. We can quickly deploy teams that are aligned to
your market segment and can draw upon our full breadth
A review of product strategy should be completed to ensure of experience. Ways that we can help include:
that the target market groups for products marketed match
your strategy and long-term customer acquisition targets. ►► Advice on product strategy and business models

By proactively managing your firm’s regulatory product ►► Advice on governance arrangements

risk it is less likely that you will be subject to regulatory
remediation or the sanctions that the FCA can impose on
firms or individuals (in significant influence functions) that
are unable to demonstrate compliance.
►► Governance reviews
►► Advice on product stress and outcome testing
►► Risk reviews
►► Distribution strategy reviews
►► Product strategy reviews
►► Outcome testing
►► Product life cycle assessments
►► Reviews of your root-cause analysis processes
►► Review of reward and incentivization schemes
These are a sample of the services that we provide.
We will of course work with you to tailor our services to
meet your identified needs.

9 Product intervention Consumer protection agenda: Global regulatory reform

 Responding to Global Regulatory Reform
In response to the financial crisis, and the relentless pace of regulatory change, we have teams of dedicated
professionals across the globe looking at the key challenges of Global Regulatory Reform (GRR). Our GRR focus
includes personnel skilled in regulation, risk, performance management, tax, assurance, and transactions, who work
together to deliver insights and thought leadership to our clients to help them determine the best response to their
immediate and longer term business needs. Our global network of professionals offers an integration of regulatory
and technical skills that sets us apart in advising and helping clients to achieve compliance and growth.
To access insights on Global Regulatory Reform and how we can help visit: www.ey.com/financialreform

For further information contact:

Retail banking firms

Jenny Clayton Partner + 44 20 7951 9016 jclayton2@uk.ey.com

Nahid Kausar Director + 44 20 7951 5793 nkausar@uk.ey.com

Heather Alleyne Director + 44 20 7951 3827 halleyne@uk.ey.com

Asset managers, wealth managers and private banking

Tim Rooke Partner + 44 20 7951 1472 trooke@uk.ey.com

Anthony Kirby Director + 44 20 7951 9729 akirby@uk.ey.com

Insurance firms

Steve Southall Executive Director + 44 20 7951 1004 ssouthall@uk.ey.com

David Nancarrow Senior Manager + 44 20 7951 7377 dnancarrow@uk.ey.com

Product intervention Consumer protection agenda: Global regulatory reform 10

EY | Assurance | Tax | Transactions | Advisory

About EY
EY is a global leader in assurance, tax, transaction and advisory services.
The insights and quality services we deliver help build trust and confidence
in the capital markets and in economies the world over. We develop
outstanding leaders who team to deliver on our promises to all of
our stakeholders. In so doing, we play a critical role in building a better
working world for our people, for our clients and for our communities.

EY refers to the global organization, and may refer to one or more, of

the member firms of Ernst & Young Global Limited, each of which is a
separate legal entity. Ernst & Young Global Limited, a UK company limited
by guarantee, does not provide services to clients. For more information
about our organization, please visit ey.com.

© 2014 EYGM Limited.

All Rights Reserved.

EYG No. CQ0157

1378999.indd (UK) 06/14. Artwork by Creative Services Group Design.
ED 0615

In line with EY’s commitment to minimize its impact on the environment, this document
has been printed on paper with a high recycled content.

This material has been prepared for general informational purposes only and is not intended to
be relied upon as accounting, tax, or other professional advice. Please refer to your advisors for
specific advice.

ey.com