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Re: Strengthening our financial promotion rules for high risk investments, including cryptoassets- Consultation paper CP22:2
I welcome the opportunity to respond to the questions raised by your CP22:2 consultation.
In response to Q1 to Q11 of the consultation, I would say that the FCA proposals do no harm, but that they rather miss their mark as they do not distinguish between those who really do not need protection at all and those who do. We are all retail consumers, with very few exceptions, as most natural persons would be categorised under FCA rules as retail clients and consumers and not as professional clients.
Thus any discussion on appropriate protections for the consumer investment market really pivots on distinguishing between those in our society who are both wealthy and not easily convinced or susceptible to marketing ploys; and those who have neither wealth nor discernment.
Educated savvy high earners should be eligible to receive promotions of unregulated high risk investments without positive friction.
Those in our society who require protection will pay no more regard to more additional risk warnings than they pay to a weak ‘capital at risk’ warning. I suspect that the uneducated less savvy members of society, intent on instant gratification, will have only a limited capacity for sustained concentration on the reading of financial promotions in any event and accordingly, merely adding additional risk warnings that will be ignored, including a ‘Take 2 min to learn link’, will have a very limited benefit for the vast majority of the consumer investment market.
The central policy for the regulation of financial promotions for high risk investments in the businesses in the real economy that require essential funding from private investors, should surely be that promoters must have reasonable grounds for believing that the recipients of their financial promotions are likely to consider all the circumstances and possible consequences of a decision to invest or not; in other words, that they will be circumspect and thus unwilling to take risks they don’t understand.
On this basis, I would recommend that the financial promotion of all Restricted Mass Market Investments (RIMMIs) and of all Non-Mass Market Investments (NMMIs) should be restricted to those of whom one has reasonably grounds for believing they are both circumspect and and also wealthy, on the basis that wealth alone does not imply sophistication though a lack of wealth might indicate that a private investor is not as sophisticated as he might like to declare.
Thus I would submit that the test for who should be an eligible recipient for a RIMMI and a NMMI should be a twin test for both wealth and the power of discernment. My suggestions for this twin test for circumspection or discernement and wealth were set out in my response to the HM Treasury Consultation: Financial Promotion Exemptions for high net worth individuals and sophisticated investors December 2021 which can be seen here. The ‘discerning high net worth investor’ or the ‘circumspect high net worth investor’, does not need the same protections that a caring society should enact for the benefit of the unsophisticated.
With, perhaps, one exception, where the lack of significant wealth ought not to be a barrier for participation in a special class of RIMMIs.
It is government policy that tax relief should be made available for those in the consumer investment market prepared to take the risk of providing essential funding to those businesses in the real economy that qualify for investment under the Seed Enterprise Investment Scheme (SEIS), Enterprise Investment Scheme (EIS) and/or from Venture Capital Trusts (VCTs) (together, the ‘Venture Capital Schemes’).
Accordingly, I would recommend that whilst financial promotions relating to investments in SEIS or EIS qualifying companies or in VCTs should be restricted to those who are discerning, there should be no requirement that they should also be wealthy. Such investors may lose their money by making venture capital investments but their risk will be significantly offset by a suite of generous tax reliefs and, for the more cautious, professional (S)EIS and VCT fund managers of good repute can often provide a lot of added value in ensuring that many of the risks of investing in unlisted companies are sidestepped.
In response to Q12 to 24, my response is similar, in that, all of the proposals, bar that in paragraph 5.22, make sense, but again they miss what ought to be their mark. The challenge, as acknowledged in paragraph 2.6 of CP22:2 is that the FCA has only limited powers over many issuers of high-risk investments where they are not carrying out a regulated activity, but this is only true as a regards the lack of any direct power.
The FCA could very easily exert an indirect power over unregulated issuers, by requiring section 21 approvers to insist on the inclusion of a responsibility statement in a financial promotion by the directors of issuers, that they believe the facts stated to be true and not misleading in any significant way, including by ommision and that all opinions given are honestly held and believed to be reasonable. This would provide aggrieved investors with the ability to sue the directors for misrepresentation if the financial promotion proves to be a false prospectus. This is a more appropriate approach I suggest than the introduction of a requirement that section 21 approvers should have or buy in the competance and expertise to assess whether a financial promotion relating to a RIMMI is fair, clear and not misleading.
The difficulty is that the test by which one judges what is or is not a financial promotion is very different to the second test by which one judges whether a financial promotion is fair, clear and not misleading.
As regards this first test, what might be an invitation or an inducement and so a financial promotion is to be judged from the standpoint of a rational investor, or a reasonable observer and not from the standpoint of the particular observer; nor from the perspective of intentionality on the part of the communicator nor on a conditional basis where the question of whether something might be persuasive or not to the same individual depends on the circumstances at the time. The first test is an objective test within the competence and expertise of a discerning section 21 approver to judge.
The second test is different, it is a subjective one which delves into the sucking bogs of relativism, where context is all, and I would respectfully submit that the only persons properly able to accept responsibility for a financial promotion being fair, clear and not misleading will only ever be the directors of the issuer; not the section 21 approver.
Consider the hypothetical case of a high risk biotechnology company which claims to be on the right path to discover a new cure for a dreadful disease. Is it really intended that the section 21 approver should retain staff with the technical competence and expertise to assess whether the prospects for success or the risks of failure are expressed in terms that are fair, clear and not misleading? If so, the due diligence costs for raising essential funding for the growth and development of the high-tech businesses our economy so badly needs will be very significant and a likely consequence of introducing such a requirement is that the ability of such companies to raise private sector capital for their growth and development will be well and truly stymied. The introduction of such a restriction would run contrary to current HMT policy that private investors should be encouraged to invest in high risk investments by the tax reliefs available for investors through the venture capital schemes. I recommend therefore that this proposal is withdrawn.
In substitution, a section 21 approver, as a condition for approving the promotion, could be required to insist upon a financial promotion containing a directors’ responsibility statement, thus providing the FCA with the indirect power to ensure that issuers behave responsibly in the consumer investment market. A section 21 approver should not be required to verify the truth of what the directors say.
As regards Q25-26, I doubt very much whether even circumspect investors properly understand the investment risks associated with investing in crypto assets and, on this basis, I believe that such investments are properly the domain of per se professional investors.
I hope these comments are of assistance. They are my own and not necessarily representative of all other views in the firm.
Senior Partner, RW Blears LLP