MiFID II reporting and the 10 per cent rule

Navigating investment markets is tricky, and this is particularly true of the eerily quiet markets of today. Whilst markets may appear calm, there are tensions building up that will inevitably lead to volatility in future.

Delivering performance within our clients’ risk budgets is our number one priority but achieving long-term financial outcomes also requires composure by our clients too.

The nature of markets means there are inevitable peaks and troughs. While it’s the investment manager’s job to try mitigate the impact of troughs, if clients’ take flight when volatility takes hold, history shows they are often worse off than if they stayed invested. Some recent work we’ve done around what the MiFID II regulation for reporting a 10 per cent drop in value will mean has underlined this.

In a matter of weeks (from 3 January 2018), two changes will result in clients receiving more frequent reports about their portfolios. One requires MiFID firms to increase their investment performance reporting from the standard twice a year to at least quarterly. The other requires that investment firms providing the service of portfolio management, inform clients by the end of the business day if the value of their portfolio depreciates by more than 10 per cent from the beginning of the last reporting period. It also requires disclosure at each subsequent fall of a multiple of 10 per cent.

Setting up a framework to comply with reporting a 10 per cent drop in this way has presented the industry with considerable technical challenges but that aside, having such a rule must surely create a risk that some – if not many – clients will panic post investment falls and want to take flight from their agreed investment strategy.

While not being able to predict what will happen in the future, generally, history shows that clients are usually worse off if they sell after market falls than if they had remained invested and the recent work our team has done bears this out.

Perhaps fortunately for those tasked with reporting such dramatic drops, our work also shows that such occurrences appear to be rare, so firms investing in mainstream assets are at least likely to have some time to plan before they must send their first one.

The results of our research can be found in a new paper we produced. Called Exploring the 10% Drop Rule it highlights the possible negative impact on long-term returns when clients leave when markets are down. It also details how infrequent a drop of 10 per cent over a quarter has been in the past five years.

We’re currently carrying out further work on this topic, looking at the logistical framework for reporting and the complexities involved…watch this space.