Unregulated Collective Investments (UCIS)
A UCIS is a collective scheme not registered with the FSA.
Although UCIS schemes are not authorised products, the person carrying on regulated activities in the UK in relation to UCIS, including providing personal recommendations, is subject to FSA regulation. This is known as a 'Regulated Activity'.
UCIS are generally regarded as having a high degree of volatility, illiquidity or both, therefore are usually regarded as speculative investments. This means that in practice they are rarely regarded as suitable for more than a small amount of an investor's portfolio.
UCIS will be suitable for some clients based on their needs, circumstances, knowledge, experience and objectives as well as their attitude to investment risk and the diversity of their investment portfolio. However, the risks do have to be understood by the adviser and the client to make sure the recommendation is suitable and appropriate.
Specific risks of UCIS are:
- lack of Liquidity and not being subject to investment and borrowing restrictions, aiming to ensure a prudent spread of risk
- few guarantees (capital or income)
- redemption on discretion of the fund manager
- high charges, unclear charges and costs and gearing
- potential for total loss
- currency, geographic and political risks
- fraud and money laundering risks
- no protection under FOS and not covered by FSCS
- lack of information on the fund and past performance in some cases
- difficulty in obtaining accurate valuations in some cases
All persons involved in UCIS must demonstrate that they are competent to give advice, sign off promotional material or oversee UCIS and that they fully understand the FSA rules governing UCIS.
FSA review
In December 2010 the FSA instructed firms involved with UCIS to review systems and controls to ensure that the promotion or recommendations were compliant.
From its recent review, it was clear that some firms were unaware of the statutory restrictions on the promotion of UCIS to the general public, and therefore promoted them to their customers before satisfying themselves that the customers were eligible for the promotion or communication.
The main concerns arising included:
- firms' lack of awareness of the statutory restriction on the promotion of UCIS and the exemptions that customers have to fall within before UCIS can be promoted to them
- firms' lack of understanding of the UCIS market and risks
- promotion and recommendation of UCIS to customers who were not eligible for this type of investment.
The FSA recommended to anyone involved in these products to:
- reflect on whether they do give a balanced view of UCIS products both in:
- the material provided to customers
- the marketing and training material provided to those who are going to advise on these products.
- consider what due diligence is carried out to be satisfied that the IFAs who advise on these products are not only competent to do so, but they also have the right type of client base for such products
- review the management information on sales of these products to limit any risks to customers and to the reputation of the firm and its individuals
- review all UCIS advice and sales to ensure the advice is suitable, appropriate and compliant.
The FSA has recently fined IFAs for failing to understand the restrictions on promoting UCIS. For example, the FSA two partners of a firm £28,000 for failing to make suitable recommendations.
Promoting UCIS
Promoting a UCIS involves a 'communication' of an 'invitation' or 'inducement' to 'engage in investment activity' in relation to a UCIS. Communication includes face to face, in writing, by phone, emails, advertisements, websites, seminars and presentations. Therefore, do not invite clients to road-shows or seminars where you refer to a particular UCIS, before assessing whether the customer is eligible for the promotion of a UCIS.
There are restrictions on promoting and communicating a UCIS. However, there are exemptions in the Promotion of Collective Investment Schemes Order (the PCIS) and in COBS 4.12 allowing you to communicate UCIS to certain clients. The most common ones in the PCIS are:
- certified high net worth individuals (HNW)
- certified sophisticated investors
The most common in COBS 4.12 are:
- Category 1 - "already a UCIS investor"
- Category 2 - "UCIS is suitable for client"
- Category 7 - "professional client"
- Category 8 - "experienced client"
Do you know your customer?
It is your responsibility to evidence that you have reasonable grounds to believe the client is HNW, sophisticated or that you can apply a COBS 4.12 exemption. Do not rely upon their self certification. A wealthy client who could be considered a HNW client may not have the understanding, knowledge or experience to enter into a UCIS.
The COBS 4.12 requirement is for you to have taken reasonable steps to ensure that investment in the UCIS is suitable for a client and that you have "undertaken an adequate assessment of his expertise, experience and knowledge and that assessment gives reasonable assurance, in light of the nature of the transactions or services envisaged, that the person is capable of making his own investment decisions and understanding the risks involved".
COBS 9 (Suitability) requires you to know your customer. Before you can apply a COBS 4.12 or PCIS exemptions you must be able to demonstrate you know your customer.
Where you consider that a UCIS might be appropriate for your client, having considered all of the exemptions, risks and the overall suitability within their investment portfolio, think about:
- what are the alternatives? Why have these not been recommended?
- is the portfolio adequately diversified?
- can you demonstrate the advice is suitable and appropriate?
- does the client's Attitude to Investment Risk apply to this investment or the whole of their portfolio and is this clear?
- can the client accept and understand the risks and potential loss?
- is there the possibility of total loss of the investment? If so, does the client understand and what impact would this have on their portfolio, objectives and income, now or in the future?
In addition to the above considerations full COBS rules on research, suitability and disclosure will apply. If a client is not familiar with a UCIS you must demonstrate within the client file WHY you consider a UCIS to be suitable and appropriate to meet the client's needs, objectives and circumstances based on your knowledge of the client and that the client fully understands and accepts the risks.
Transmission of orders
For non-MiFID firms, you will fall foul of the MiFID rules if you transmit orders to operators of UCIS unless they are fund managers to which MiFID applies.
Breaches
If you breach any of the FSA rules you must inform the FSA under SUP 15.3.11R.