Regulating Customer Outcomes The journey from TCF to Product Governance & the Consumer Duty

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Brandon Horwitz

Mis-selling scandals litter the history of the UK financial services landscape, with multiple examples over the years across a wide range of products including: pensions, endowments, payment protection insurance (PPI) and structured products.

This article explores how UK regulation has progressively moved towards focusing on customer outcomes and how this has been reflected in supervisory and enforcement actions.

The Financial Conduct Authority’s (FCA’s) predecessor, the Financial Services Authority (FSA), identified a common theme in all these scandals: a failure by regulated firms in delivering good customer outcomes, even when rules may have been followed to the letter.

The FSA’s first step to address this was the publication of its Principles in 2001 to complement the Rules, including Principle 6 regarding customers’ interests, requiring that: ‘a firm must pay due regard to the interests of its customers and treat them fairly.’

Recognising the potential for subjectivity in interpretation of this principle, the FSA further articulated a series of Treating Customers Fairly (TCF) outcomes. These outcomes cover the culture of firms, how products and services are designed and sold as well as the information provided to consumers. They also include a requirement for any advice received to be suitable, that products perform as expected and that consumers do not face unreasonable barriers to changing products, submitting claims or making complaints.

The FSA’s (and subsequently FCA’s) approach to supervision has concentrated on assessing whether firms can demonstrate that they have in place robust Management Information (MI) to measure and monitor these TCF outcomes. Regulators also expect action to be taken when there are any indications of poor customer outcomes such as increased complaints, limited evidence of customers making use of product features or evidence of unsuitable advice to consumers.

The FSA and FCA used the TCF principle as a key part of their action to address PPI mis-selling, which has cost the industry over £38bn in refunds and compensation between 2011 and 2021.

Concerns about structured products, including retail customers impacted by the default of Lehman Brothers, was the key catalyst for the next evolution in the FSA’s approach to regulating customer outcomes. The FSA undertook a thematic review in 2010-11 focused on the risk of poorly designed products resulting in mis-selling to, or mis-buying by, consumers. This resulted in the 2012 publication of rules on ‘Retail Product Development and Governance’ (FG12/09).

These rules included requirements to: identify a target customer for a product, design a product to meet specific customer needs, stress test products, and, ensure there is a robust product approval process (including monitoring a product’s performance to the end of its life cycle).

The FCA continued the focus on product governance when it was established in 2013, expanding its scope to a wider range of investment and insurance products. It is worth noting that this momentum was also driven by UK implementation of product governance requirements in the European Markets in Financial Instruments Directive II (MiFID II) and the Insurance Distribution Directive (IDD). This resulted in the creation of the FCA’s PROD section of the Handbook focused on Product Intervention and Product Governance.

Supervision and enforcement activities have been influenced by these changes, with further examples of firms being fined for failing to treat customers fairly and failing to put in place appropriate systems and controls to ensure that products are governed appropriately (such as a fine of £1.9m for Henderson Investment Funds Limited in 2019).

The asset management industry has come under particular scrutiny for product governance issues, with the FCA’s Asset Management Study in 2015-2018 highlighting a lack of value being provided by some investment funds. The resulting remedies, including a requirement for an annual value assessment, have been incorporated into how asset management firms undertake product governance.

The latest chapter in the focus on regulating customer outcomes is the FCA’s proposed Consumer Duty, currently intended to apply from 2023. This regulation builds on both TCF and product governance regulation and applies to all products and services offered to retail customers. The Consumer Duty also introduces a new Consumer Principle which sets a higher standard than the current TCF requirement, requiring firms to ‘act to deliver good outcomes for retail customers.’

This principle is accompanied by ‘cross-cutting’ rules to: act in good faith toward retail customers, avoid foreseeable harm to retail customers, and, enable and support retail customers to pursue their financial objectives. Firms will also need to demonstrate how they are monitoring and managing customer outcomes relating to products and services, consumer understanding, price and value, as well as consumer support.

The Consumer Duty clearly raises the bar once again and will require a much wider range of firms than ever before to understand and implement comprehensive product governance requirements. We can also reasonably expect the FCA to be even more demanding in how they supervise these requirements in years to come.