Designed by the Financial Conduct Authority (FCA) to ensure compliance with MiFID II, PROD – or the ‘Product Intervention and Product Governance Sourcebook’ to give it its full name – is part rulebook, part template and to date has been met with mixed opinion. The intention is to ensure MiFID II guidelines are consistently met, with special focus on ‘good product governance’ and product suitability, something many financial planners believe they are doing a good enough job of already. However, as is so often with financial regulation, it is not the doing that matters, it’s the documenting.
PROD requires that products should clearly meet the need of one (or more) identifiable target market(s), that products should be sold to those identifiable target markets via the appropriate distribution channels and that these products should deliver appropriate client outcomes. The achievement of this, and the clear and auditable demonstration of it, thereafter, is defined as ‘good product governance’. The insinuation here is not that firms aren’t doing this already, but rather that PROD requires you do more of it and make note of every decision along the way.
Complying with PROD
You must first define your target markets, these being well-defined groupings of clients that share similar characteristics and needs given their circumstances and personality profiles. Simply grouping by assets under management will not be enough under the new rulings. Advisers should seek to segment on more uniting qualities like life stage and appetite for risk.
Once you have narrowed down your target markets, you are in a well-informed position to identify appropriate products, ensuring diligent analysis to keep PROD happy. The product must meet the various needs of the target market, be it low volatility income portfolios as an example or otherwise but must also tally up with the target market defined by the product provider. Each product is built with a target market in mind, this made clear within the objectives and risk profile of the product, and it is the responsibility of the adviser to ensure this marries up with their own client segment and their needs. This end to end suitability, and clear evidence of it, is absolutely crucial to the compliance with PROD rulings.
These rulings aim to give structure and remove any potential guesswork from the advice process. So, whilst workload and responsibility may increase on the part of the advisory firm, so too will the reliability of your results and recommendations. To summarise, clear identification of target markets (client segmentations) and the recommendation of appropriate and suitable products, all well documented with a trail of fully evidenced decisions, should keep PROD happy.
PROD and portfolio management options
The above rules apply to those firms who recommend risk-rated multi-asset products, managed portfolio services or any other product to clients where portfolio construction and the on-going management of that portfolio is taken care of by the provider. These firms are required to centre on target market suitability of a product and the continued review of that suitability moving forward.
Things become a little more complicated for those advisory firms who run an in-house centralised investment proposition (CIP), where the design, creation and management of portfolios is done so in house. These firms are now also considered manufacturers (product providers), and as such you will be required under PROD to examine your proposition as meticulously as actual providers, which includes generating a process for identifying and managing the risks, stress-testing outcomes and alternative scenario analysis etc. It is a consequence of this greater demand on the capacity of the in-house management model that so many advisory firms are moving to a more outsourced approach.
Pros and cons of PROD
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