New Zealand’s Financial Markets Authority (FMA) has proposed a change to law to allow full roboadvice to be provided on some investments and other financial products in NZ. FMA’s proposal, if implemented, appears to create a “regulatory sandbox”. A regulatory sandbox is an approach to regulation that supports start-up businesses & innovative new services, by allowing financial products and services to be provided without having to meet all usual regulatory requirements, with allied restrictions to protect consumers. Regulatory sandboxes have been adopted by other countries to nurture the development of new financial technology (“FinTech”) businesses but the FMA has previously expressed scepticism about using them in NZ.
The FMA proposes to use its power to grant general exemptions from the requirements of the Financial Advisers Act (FAA) to (in effect) change the law to permit roboadvice. The exemption would allow personalised roboadvice to be provided, that is personalised financial advice delivered online using algorithms (the FAA currently requires a human to deliver such advice). The proposed exemption is a stop-gap measure until Parliament passes planned legislation to reform financial advice law (the Reform Law)- the draft law (and Government policy) supports roboadvice. The Reform Law may not be in force until 2019.
“Financial advice” under the FAA can relate to three categories of “financial products”, investments (shares, managed funds etc), insurance products and loans (including mortgages). Overseas roboadvice services have primarily focused on investments, but some also advise on products like insurance and mortgages. Early roboadvice providers focused primarily on investment management, helping clients to enter into (and to manage holdings of) exchange traded funds (“ETFs”), based on some limited inputs, including the client’s risk profile. The “advice” in roboadvice arose from the fact that, in the United States, investment management is regulated as a “financial advice” service (still the approach in NZ for limited types of “discretionary investment management services”).
The Reform Law will likely require all financial advice firms, including those providing roboadvice, to hold a licence issued by the FMA. Licensing has become the norm for new categories of financial services (recent examples are equity crowdfunding and P2P lending services). However, FMA is not proposing that a licence will be required in order to rely on the exemption. That’s despite there being an existing licence type that could be a pre-condition for use of the exemption, the “Qualifying Financial Entity” (QFE) licence. So the bar to using the exemption to provide roboadvice will be relatively low- a licence won’t be required (but FMA will first need to confirm that “good character” requirements are met). To address the risks of this approach FMA is proposing some quite strong restrictions and conditions. The exemption may be limited to relatively simple products that can be easily exited – insurance such as life, health, income protection, and mortgages, are excluded (but FMA is seeking feedback on that class of insurance products, which may be permitted but with relatively low value caps).
The FMA has also asked for feedback on the restrictions and conditions, including on whether:
- financial planning services should be excluded from the exemption (FMA proposes they be included); and
- whether value caps should apply (none proposed), and whether QFEs should be subject to higher caps (if implemented).
A Regulatory Sandbox?
The FMA’s proposed roboadvice exemption has all the hallmarks of a regulatory sandbox- the usual (and anticipated) regulatory barriers to entry are lowered while quite strong restrictions are placed on the services that can be provided to protect consumers. I think permitting a regulatory sandbox is a good initiative but I query whether FMA should adopt a formal regulatory sandbox policy, so that this approach is considered in other areas where it may be of benefit and to ensure a consistent approach to “sandboxes” across FMA’s regulatory ambit. I also think there are potential issues with the exemption as proposed by FMA.
The FMA’s proposed exemption may not allow the full benefits of roboadvice to be realised at this stage:
- The proposed exemption potentially impacts on the viability of start-up businesses by limiting them to advising on quite narrow classes of products (with the potential for a value cap as well).
- Consumers will potentially benefit from improved services and lower costs of advice from accessing personalised (and independent) roboadvice on important products like life insurance and mortgages. Currently the cost of such advice is high (reflected in the commissions paid by providers). However, FMA’s initial proposal is that roboadvice on such products should not be permitted (or if permitted should be subject to relatively low caps). I noted in a blog last year the potential for roboadvice to transform the provision of advice on life insurance products.
- The proposed exemption is potentially of most benefit to existing businesses (like banks and insurers) who want to provide limited advice on their own relatively simple products, rather than to the start-ups who have the most potential to create new and innovative services (and who may focus more on independent advice). The existing providers may gain a “first mover” advantage that might inhibit later innovative businesses. This suggests that existing providers should be subject to higher standards (an approach FMA indicates it may take), while start-ups should be permitted to rely on the “sandbox” standards and restrictions.
- There is no proposal on how start-ups will transition from the “sandbox” to full regulation once the Reform Law is in force.
Also, the FMA’s discussion paper on the exemption doesn’t consider in any detail the potential to use QFE licensing to allow businesses (including start-ups) to use the exemption to advise on “riskier” product types (without caps) and to provide more complex financial advice. Those businesses may otherwise be forced to apply for costly and time-consuming individual exemptions.
Cygnus Law’s submissions on the proposed exemption will address these and other points. These comments are not intended to take away from the FMA’s very real achievement in proposing the exemption. Whatever the final form of the exemption, it will have real benefits.