How does the Malta Financial Services Authority regulate companies offering investment services?
There’s the substantive or legal part, and then there’s the administrative part. Let’s start with the legal part. The Investment Services Act 1994, which has been amended a number of times since then, is one of the major pieces of legislation administered by the MFSA. It provides the statutory basis for the licensing and regulation of persons and companies wishing to set up investment services undertakings and collective investment schemes.
The Act requires that investment services business may not be undertaken in Malta or from a base in Malta without a licence from the MFSA. The Act lays down the broad criteria to be applied by the MFSA when considering applications.
The legislation also incorporates the Markets in Financial Instruments Directive, an important piece of European legislation which deals with issues that affect investors when dealing with firms that provide investment services in Europe. MiFID only applies to products such as shares, bonds, derivatives and units in investment funds or collective investment schemes. It does not apply to deposits, loans, or insurance products.
One of the main purposes of the MiFID Directive is to harmoniseinvestor protection throughout Europe. The degree of protection that you will receive is directly related to the reliance that you place on the firm and on yourself. For instance, if your financial knowledge and experience are low and you are asking the firm to advise you or to take decisions on your behalf, you will be afforded the highest degree of protection.
The MFSA regulates and licenses various service providers and seeks to provide a stable regulatory environment. The protection of investors’ interests is paramount and powers are available to take action against those who undertake licensable activities without an appropriate licence and against those who fail to meet the required standards.
The MFSA has in place guidelines: these are binding, detailed rules which focus on the manner licensed firms should conduct their business
When considering whether to grant or refuse a licence, the MFSA is legally required to have regard to three criteria set out in the law: the protection of investors and the general public; the protection of Malta’s reputation, taking into account Malta’s international commitments; and the promotion of competition and choice. The MFSA also takes into account the reputation and suitability of the applicant and of all other relevant parties closely connected with the scheme.
Besides the law, the MFSA has in place guidelines: these are binding detailed rules which focus on the manner licensed firms should conduct their business.
Then there is the administrative part or the manner the MFSA ensures that the law and the guidelines are being adhered to by the respective firms. The MFSA does so by way of off-site and on-site supervision.
People might think that investment funds are easy money: are they?
Nothing comes easy in life and nothing is guaranteed in life, except for tax and death. I’ll come to the term “guaranteed” further on when I explain about guaranteed investments.
Over a period of a few years – after 1994 when new legislation was passed allowing the creation of collective investment schemes – the Maltese public was bombarded with adverts promoting new investment products which, until that year, were exclusively licensed in foreign jurisdictions. People were excited about funds without actually knowing what these actually represented. The eager staff at some bank branches who were selling these products were comparing such investments to a fixed deposit account, which for many Maltese savers, was (and still is) a major savings vehicle which generated interest and protected their capital on maturity.
Funds were sold with promises of better returns than fixed deposit accounts. True, adverts contained the usual risk warnings such as that the value of an investment can go up as well as down. However, no one really takes notice of risk warnings. No one complains when values are positive. But themoment there is a whiff of alooming loss, there is shock and horror. And that is precisely what happened. Anecdotal evidence indicated that during the sales process, some investments were actually mis-sold and misrepresented to investors.
Investors thought that they were purchasing investments with returns which are better than fixed term accounts but the value of their holding would never fall in value and that they would be able to withdraw at any time and at no loss of capital – what many investors describe as “guaranteed”.
Many investors who had never purchased shares ended up being sold equity funds. Many investors in their pensionable age found out, to their disbelief, that their nest egg was not as safe as they thought it to be.
The adage to never keep all your eggs in one basket continues to hold true for any investor. Spread your investments as much as you can. Moreover, never invest at the first meeting with an advisor.
You are bound to be given fact sheets or brochures. It’s normal not to understand everything. What is important is that you ask questions until you are satisfied that the answers address your queries adequately. Moreover, keep in mind that the higher the return, the higherthe risk.
Are the most common form of abuse mis-selling and bad advice?
In theory, the more consumers are educated, the less likely they will complain. Investors who do their homework properly are less likely to be mis-sold a financial product, compared to investors who merely accept what they are told and blindingly sign thepaperwork.
There are some situations which an investor cannot control such as fraud within an investment firm, or failure of the company of which the investor may hold shares or bonds. An investor has to rely on the quality of the service which is given by a financial planner who is bound to apply the rules rigorously in the best interest of the clients.
The Consumer Affairs Unit at the MFSA is also responsible for financial education. The work of a financial educator and a financial mediator is always a constant battle. In our educational campaigns, we use many methods to try and explain the importance of portfolio diversification.
The number of portfolios we have come across concentrated into one or two single investments can be discouraging. We have repeatedly informed investors that high income essentially means high risk. We have come across portfolios invested in bonds paying a yearly coupon of 10 per cent, sometimes even more. We have confronted investors with the forms they signed at their financial planner. The majority have no recollection whatsoever of what they signed, whether the piece of paper had been written in big or small print, or not.
History repeats itself. The circumstances might be different but the effect is likely to be very similar or identical. Some years ago, equity and bonds funds were sold massively. Even today, many investors may not be able to make a distinction between the two.
We have repeatedly informed investors that high income essentially means high risk
With the fall of interest rates and the insatiable demand by investors for higher returns, financial innovators are creating complex and opaque highly risky investment structures and found eager intermediaries to promote and sell such instruments to retail investors, describing them as low risk investments. Some financial planners thought that they found the perfect financial instrument. Alas, some of these complex investments are facing dire problems: the most likely to be hit in a severe way are the investors who purchased them.
Should all funds come with informative product literature?
In general, all funds come with a factsheet which describes salient features of the product. Sometimes, investors are given general brochures about an investment. Brochures that serve to marketthe product are not enough tohelp investors to make an informed decision.
Some investments, such as securities are not accompanied by factsheets or brochures. Investors should ask their intermediary for a printout from reputable sources which serve a sort of database of all securities publicly traded on various exchanges.
It’s important for investors to obtain the international security identification number of their investments. The ISIN is the unique identify number of a security. Many websites provide information, including prices, for a wide range of securities and an investor may easily obtain such information by searching using the ISIN number.
What are the roles and legal obligations of a financial planner?
A financial planner should always act in the best interest of the investor. Whatever the level of service that a financial planner provides an investor, a proper and meaningful assessment of the investor’s needs and wants isa must.
Overall, the legislation obliges financial planners to act honestly, fairly and professionally, in accordance with the investor’s best interests. This principle protects the investor when they are dealing with a firm that, as a professional, is in a stronger position thanthe investor.
Financial planners should also provide the investor with appropriate and comprehensive information which is fair, clear, and not misleading. The legislation also obliges financial planners to provide the investor with services that take into account individual circumstances.
Investors should make sure that they are actually receiving advice from a licensed financial planner and that their relationship with the financial planner is one which clearly states so on paper. Investors should ask the person servicing them whether they are actually giving them advice, rather than merely selling them one or two financial products.
During the process of advice, the financial adviser will ask the investor questions to enable them to structure a portfolio suited to their circumstances. Indeed, the financial planner compiles a suitability test which is a detailed document of the investor’s needs and wants. Ask for a copy of all the documentation the financial planner compiles and go through it. Keep the document in a safe place and refer to it each time the financial planner carried out a review of your investment circumstances.
Many investors may not necessarily request their financial planners to give them financial advice. Some investors might have the experienceto identify an investment and requests their financial planner to execute a buy specifically on the investor’s instructions.
That is called an execution only service. Financial planners are, however, obliged to carry out an appropriateness test if an investor requests it a transaction onparticular investments whichare complex.
The MFSA mymoneybox portal contains detailed information about the process which a financial planner is expected to follow in such situations.
How do you choose your financial planner?
• Whether you are a beginner or have been investing for years, you should always ask questions.
• Think about your investment objectives. Do you need your investment to provide you with periodic income or do you wish to grow your capital over a number of years? What financial commitments do you already have or plan to have? What is your appetite for risk? These are some basic questions which a potential investment firm may ask you, usually at the beginning of your meeting.
• Talk to different firms and enquire about their investment experience and professional background. If possible, meet them at their offices. Ask them what they are allowed to do under their licence. Shop around for products available.
• Not all investment firms offer or charge the same for their services. Always ask for a tariff schedule. More information about fees and charges is found in the compare tariffs and charges section of the MFSA’s consumer portal http://mymoneybox.mfsa.com.mt .
• Make sure that your firm is suitable for your requirements. In any case, firms must ensure that the products they suggest really suit your interestsand needs.
• Certain firms are authorised to hold your money and investment on your behalf in their own name, that is providing nominee services. If you find it convenient to have your investments held in this way, make sure that the benefits and pitfalls are explained clearly at the outset.
• Ask how your investments could be affected if the firm or its agent (such as a foreign broker) ceases to trade.
Before you invest
• Never send money to purchase an investment based simply on a telephone conversation.
• Never make cheques payable to a representative of an intermediary. Paying by cash can be dangerous: avoid it if you can and use cheques or bank drafts instead as these are safer. Always ask for an official receipt. Never send cheques to an address different from the business address of the intermediary listed in a prospectus or terms of business letter.
• Before signing a long-term contract, make sure that you are fully aware of what might happen to your investment in case yourplans change.
• Be aware of any penalties for early termination.
• Never allow your contract notes or your valuation statements to be delivered or mailed to your intermediary as a substitute for receiving them yourself. These documents are your official record of the date, time, amount and price of each security purchased or sold. Verify that the information in these statements is correct.
Investment checklist
• Investors should: be suspicious of anyone who tells you to invest quickly or you will miss out on a once in a lifetime opportunity. If it sounds too good to be true, it probably is.
• Guarantees that you will not lose money on a particular investment or an excessive number of transactions in your account. Such activity generates additional commissions for your investment firm, but not necessarily better investment opportunities for you.
• Recommendations to make a dramatic change in your investment strategy, such as moving from low risk investments to speculative securities. Unless there is a legitimate investment purpose, a switch may simply be an attempt to generate additional commission for the investment firm.
• Assurances from your intermediary that an error in your contract note or valuation statement is due solely to computer or clerical error. Insist that the investment firm or compliance officer promptly send you a written explanation. Verify that the problem has been corrected on your next valuation statement.