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Financial Markets Regulation Update

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Contributed by: Dan Jones and Joanna Khoo

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Published on: August 17, 2017

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The Financial Markets Conduct Amendment Regulations 2017 came into force on 9 August 2017 and makes the following amendments to the Financial Markets Conduct Regulations 2014 (FMC Regulations).

Electronic distribution of annual reports

The new regulation provides certain FMC reporting entities (e-reporting entities) with a new process for distributing annual reports to shareholders electronically, instead of sending a hard copy of the annual report, or a notice of the annual report, to shareholders annually (as otherwise required under sections 209 to 209B of the Companies Act 1993). 

Broadly, an FMC reporting entity that is an issuer of equity securities that are regulated products, must:

  1. make annual reports publicly available on its website for at least five years; and
  2. send a one-off notice to shareholders (Regulation 61E notice) advising that the annual report is available on its website (or in hard copy by request to the company).

FMC reporting entities that are issuers of equity securities may use the new electronic process for an accounting period ending on or before 31 December, and must do so from 1 January 2018 (ie. for any accounting periods ending on or after that date). Other FMC reporting entities may choose to use the new electronic process or continue to use their current distribution process under the Companies Act.

The NZX has released a ruling (available here), which recognises the new process and extends the one-off notice process to half year reports prepared under the NZX Listing Rules. NZX also intends to amend Listing Rule 10.4.4 in due course, to reflect the changes under the FMC Regulations.

Regulation 61E notice
The e-reporting entity must send to all 'notifiable shareholders' (as defined and discussed below) a Regulation 61E notice containing:

  • a statement that the company's annual report for the accounting period will be publicly available on the company's website;
  • a link to the company's website where the annual report is located;
  • a statement that the company's annual reports for all future accounting periods will be publicly available on the website; and
  • a statement that the shareholder may at any time request a hard copy or an electronic copy of the most recent annual report and future annual reports.

This notice should be provided to shareholders not less than 20 working days before the company's annual general meeting (or if it is not required to hold an AGM, within 20 working days after the annual report is prepared). Listed issuers are also required, under Listing Rules 10.4.1 and 10.4.4, to provide the Regulation 61E notice to shareholders and to the NZX within three months after the entity's balance date.  

'Notifiable shareholders' are all shareholders of the e-reporting entity on the date that is 20 working days before the date of the annual general meeting (Last Notice Date). If the Regulation 61E notice is provided to shareholders at a date earlier than the Last Notice Date, e-reporting entities should also provide the Regulation 61E notice to all new shareholders as at the Last Notice Date.   

Once a Regulation 61E notice has been sent to a shareholder, it does not need to be sent every year.  However, if a shareholder requests a hard copy of the annual report, the e-reporting entity must send its annual report for each future accounting period to the shareholder until the shareholder revokes its request or ceases to be a shareholder.

Other amendments

  • Confirmation notices: Currently, if a product disclosure statement's (PDS) status is closed, a confirmation notice must be lodged before its status can be changed to open. The new regulation clarifies that a confirmation notice must be lodged before changes are made to the status of the PDS that relates to multi-fund investment options and life cycle investment options.
  • Civil liabilities: Under the Financial Markets Conduct Act 2013 (FMCA), contravention of certain prescribed provisions of the FMC Regulations may give rise to civil liability and a pecuniary penalty. The new regulations prescribe the relevant provisions under the FMC Regulations. The new regulation also amends Schedule 8 of the FMC Regulations to reduce the maximum penalty under civil liability in relation to breaches of disclosure obligations that apply to offers under schedule 1 of the FMCA. 
  • Information disclosure for defined benefit schemes: A manager of a defined benefit retirement scheme is currently exempt from the requirement to make certain information about fund performance publicly available each quarter. The new regulation also exempts defined benefit retirement schemes from the requirement to record such financial performance information on the register.

FMA proposes class exemption from market index requirement

What is the market index requirement?
Under the FMC Regulations, fund managers are required to disclose the return of a 'market index' in quarterly fund updates. The purpose of the market index requirement is to serve as a benchmark and provide investors with information on the performance of the fund, relative to the market.

The FMC Regulations require a market index to be:

  • a broad-based securities market index;
  • widely recognised and widely used in the financial markets;
  • administered by a person other than the managed investment scheme manager or their associated persons; and
  • appropriate in terms of assessing movements in the market in relation to the returns from the assets in which the fund invests.

Where a fund:

  • is invested in asset classes with no identifiable index available (for example, funds with illiquid underlying assets);
  • is invested according to a strategy or style as opposed to particular assets or markets; or
  • uses alternative investment strategies that materially alter the return profile of the underlying assets (for example, derivative instruments),

it may be difficult to identify a market index that complies with the requirements.

As a result, market practice has been to use absolute return benchmarks (for example OCR + 500bps) or peer group indices. The FMA is concerned that an absolute return does not provide contextual information about the performance of assets or markets in which the fund invests, and accordingly does not currently consider that absolute returns are an appropriate alternative to the market index.

Proposed exemption
The FMA is proposing a class exemption allowing managers to use a peer group index as an alternative to the market index where a manager decides there is no broad-based market index compliant with the FMC Regulations. A peer group index provides a return based on the performance of a 'universe of funds' following a similar approach or investment style. 

The FMA's view is that managers should only use peer group indices after making reasonable efforts to find an FMCA compliant market index, but that where appropriately selected, peer group indices are consistent with the underlying policy rationale of the market index requirement.

The FMA has expressed a preference for a peer group index, over other options such as:

  • an absolute return benchmark;
  • the ability to opt-out of the market index requirement; or
  • providing managers with flexibility to provide more than one benchmark.

Managers relying on the proposed class exemption would be required to include a brief statement in the fund update explaining:

  • that peer group returns have been used;
  • the reasons for using a peer group return, including how this appropriately reflects the risk profile and investment strategy of the fund; and
  • that as a result of using the peer group return, the market index may be a less reliable indicator of the performance of the market that the fund invests in.

The FMA note that because peer groups are typically prepared net of fees, managers will need to clearly label the market index and/or otherwise explain any material adjustments for fees and taxes.

A link to the consultation paper is available here. Submissions on the proposed class exemption close on 1 September 2017 and the FMA expect to have a class exemption in place by late 2017.

If you would like to discuss this Update or a submission on the proposed class exemption, please get in touch with one of our team below.

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