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Speech by Vernon Everitt, Director, Retail Themes Division, FSA
City and Financial Conference: The FSA’s Financial Promotions Regime
28 November 2006

Good morning. Thank you for inviting me to open your conference.

I'd like to focus on three key areas:

• why we continue to regard financial advertising as a priority area for our attention;
• the overall improvements we have seen in the quality of advertising over the last couple of years and certain areas of ongoing concern; and
• an outline of our future plans, including what our move to a more principles-based approach means in practice.

My basic message today is this. The era of box-ticking "compliance" in this area is well and truly at an end. We have a clear and rare opportunity to make a decisive break from regulatory prescription towards an approach that focuses on delivering clear business benefits to the firms which spend more than £1.5bn on financial advertising every year and clear benefits to the millions of consumers who are subject to it. Our current review of the conduct of business sourcebook and the halving of the number of rules in this area that this brings is an unambiguous statement of intent from us.

Wider Context

Before gettting into my main subject, it is, of course, important to place our work on financial advertising within a wider context.

To help achieve a fair deal for consumers, we find it helpful to think in terms of the four pillars essential to delivering a more effective and efficient market in retail financial services:

• helping consumers to become more capable and confident in the decisions they are required to make;
• ensuring that consumers receive, and use, clear, simple and understandable information;
• ensuring that firms are soundly managed, well-capitalised and that they treat their customers fairly; and
• delivering a regulatory regime that is proportionate and risk-based.

Our approach to financial advertising is relevant to the delivery of all these outcomes. However, the key requirement is one of the eleven principles which underpin our whole regulatory approach: Principle 7 says, ‘a firm must pay due regard to the information needs of its clients, and communicate information to them in a way which is clear, fair and not misleading’.

This articulates the outcome to be achieved, rather than prescribing how that outcome is to be achieved. This focus on outcomes rather than rules and process tends to elicit the sort of reaction that many people have to Marmite – either you love it or you hate it. But those capable of seeing the bigger picture will embrace the opportunities a more principles-based approach presents and use it to their competitive advantage.

Clear communication is also a key component of how firms apply in practice our overarching Treating Customers Fairly (TCF) initiative. We have set out a number of high-level outcomes for consumers that we want to achieve here and two are particularly relevant to advertising: ‘Consumers are provided with clear information and are kept appropriately informed before, during and after the point of sale’ and ‘Consumers are provided with products that perform as firms have led them to expect'. So, similar in many respects to the way in which firms handle complaints, the way in which firms handle financial advertising is an important and highly visible indicator to us of how seriously they apply TCF in practice.

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Why Financial Promotions Matter

So why do we place so much store on firms getting financial advertising right? It is because advertising has a highly influential role in how consumers make decisions. It is, I hope, a statement of the blindingly obvious that the consequences of misleading advertising can be painful for all concerned. Poor promotions can lead consumers to buy the wrong product, ultimately with unhappy outcomes for them and for firms. And, of course, a firm's reputation comes under threat if it does not clearly represent what a product is and what it can deliver.

A further significant environmental factor is the low level of financial capability in the UK. An efficient retail market relies on capable and confident consumers as well as firms who treat their customers fairly. We have explored, and will continue to explore, the question of how far consumers might be able to take greater responsibility for their financial decisions. However, the complexity of markets and range of choice faced by consumers has also increased dramatically. Unsurprising then that many consumers find it hard to understand financial products and the risks associated with them. Our recent financial capability survey revealed that many consumers struggle to choose products effectively. For example, some 40% of people who own an equity individual savings account (ISA) were not aware that its value fluctuates with stock market performance, whereas 15% of people who own a cash ISA thought its value does.

Over time, the National Strategy for Financial Capability, headed by a Steering Group chaired by FSA Chief Executive John Tiner, will help consumers to become better able to ask the right questions and exercise the right choices. But current levels of financial capability underline why it is so important for adverts to be straightforward in communicating the nature of the product or service and the risks involved. If they fail to give a clear and straightforward description, how then can we expect further progress to be made in encouraging consumers to take greater personal responsibility for their financial decisions?

Clear, fair and not misleading advertising is also important to the overall integrity and reputation of the industry; competition between firms would be distorted if some firms pushed the boundaries too far in attempting to gain market share. We have, for example, already seen dangers posed to the reputation of sub-prime mortgage and general insurance markets in terms of the quality and reliability of headline claims in their advertising. As I will explain later, these remain areas in which we expect improvements to be made.

It is vital that the overall framework for financial promotions commands the respect of all players in the market - and I include the advertising industry in that as well as the firms we regulate - and we continue to see significant scope for senior management of firms to take a lead in improving overall industry standards to ensure that customers are being treated fairly. Again, a move to a more principles-based approach with less prescription offers us the prospect of a partnership that will deliver that support.

So that's why we care about financial advertising. I would now like to say a few words about our proactive and risk-based regulatory approach in this area and the outcomes it is delivering for consumers.

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Our Strategy

We focus on the areas of highest risk to consumers based on factors like an analysis of the type of product, distribution channel, target market and scale of potential harm. So, an approach completely in keeping with our overall risk assessment framework which we call Arrow. The primary outcome we seek to deliver is a proportionate regime that protects consumer from the risk of being misled and which tackles the root causes of significant risks, not just the symptoms in the form of poor individual advertisements.

While we continue to see variations in standards across firms and across different sectors of the market, this strategy has led to overall improvements in the quality of advertising over the last two years. Significantly, this includes a marked reduction in the number of adverts posing a high risk to consumers. Of the 220 adverts reviewed recently by the FSA Consumer Panel, just 4 were considered high risk.

Our whole mindset is around being proactive and proportionate. We proactively scan promotions across all types of media – print, the internet, broadcast and so on - to focus on the areas where there is greatest risk of significant consumer detriment, often where consumers themselves have not realised the risks. This approach is vital in helping us to concentrate our finite resources in the areas that matter most and heading off harm to consumers before it crystallises. So yes, there will continue to be advertisements which do not meet the standards we expect. But, over time, we expect these instances to reduce, as indeed they have over the last two years. But we must do so while at the same time not stifling the industry's ability to market products in an engaging and, dare I say, entertaining, way.

This proactivity extends to consideration of all aspects of firms' systems and controls and culture because deficient advertising is often a sign of wider problems in the way a firm is managed and controlled. Again, the imbalance in the relationship between firms and consumers means that consumers may not appreciate that they may have been misled until much later when, by that time, the product may not have met the expectations raised by the firm. That's why we think it is so important to address in a proactive way the root causes of deficiencies and to take pre-emptive action rather than relying too heavily on complaints about individual adverts.

A further critical element in our proactive approach is taking very swift action to prevent consumers being misled, often involving direct intervention with firms to force the immediate amendment or withdrawal of misleading promotions.

Over the last two years, we have investigated over 930 cases of potentially misleading advertising. Although we did not need to take action in all of these, in 60% of them adverts were swiftly amended or withdrawn altogether. Moreover, where consumers have been misled and suffered loss, we often require firms to offer compensation. This means that we can deliver very rapid consumer protection without needing to resort to formal enforcement action – the fact is that anything approaching a 'public censure' has to go through the formal disciplinary process which could significantly delay delivering protection. What matters here is acting fast.

In the vast majority of cases, formal enforcement action would be disproportionate. But in the more serious cases we do, of course, take such action. In the last two years, we have done so in respect of twelve firms, levying just over £1.5 million in fines.

In August this year, a friendly society was fined £55,000 for financial promotions failings including sub-standard television adverts and direct offer packs targeting older, and thus more vulnerable, consumers. This particular case highlighted some of the lessons for firms more generally:

• are you clear that you have considered the needs of your target audience?
• are you clear that you provide a fair and adequate description of the risks and drawbacks of the product?
• are you clear that you have described the product properly? In this case, a whole of life insurance policy was described as a funeral plan in one promotion, when it was no such thing.

Alternatively, or in addition to, enforcement, we often conduct thematic work to identify whether there is a wider market issue and, if so, how serious that issue is. We communicate our findings through our website, press releases, via our industry and consumer bulletins and by alerting relevant trade bodies as a way of communicating our expectations and driving up overall standards. We have undertaken thematic work on a range of products, such as property investments, ISAs, venture capital trusts and critical illness insurance and published the results so that all can learn from them. For those of you who have yet to see it, I commend our August financial promotions progress update as a really good place to get a feel for the outcome of this work and the lessons that can be drawn from it.

In taking this work forward, we liaise closely with the Advertising Standards Authority and we will be looking to step up our collaboration with them in the next period to see what we can learn from their approach. We will also be hosting a roundtable for the advertising industry, not least to explore the impact of our move to a more principles-based approach, which I will talk about in more detail later.

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Getting your advertising right – the big things that matter most

Now let’s drill down into the four big issues that recur in much of what we see and which can sometimes lead us to question whether firms are really applying TCF in practice:

• senior management responsibilities and management information;
• clarity of the product and target audience;
• risks and drawbacks; and
• percentages and headline claims.

First, senior management responsibilities and the use of Management Information (MI).

At the end of 2005 we carried out work to assess the extent to which firms’ senior management is involved in establishing systems and controls around advertising and use MI to assess their robustness.

Generally, we found firms’ senior management do not have direct involvement, although this will depend upon the size and structure of individual firms. These responsibilities tend to be delegated to other relevant members of staff, which is fair enough. But what really concerned us was that MI, if it existed at all, focused mainly on business-driven statistics, such as volumes of sales resulting from particular adverts, rather than identifying issues which could give early warning of potential deficiencies in the sales and marketing of products. Given the potential reputational impact on firms of poor promotional and sales practice, we found this particularly worrying. You wouldn't find a car manufacturer taking such a risk with a new model, so why do financial firms take such risks with their products?

But it was by no means all gloom. Good practice included:

• some firms set up financial promotions fora involving senior management and including both the marketing and compliance functions; and
• one firm even mailed its board members with copies of customer mailings as part of its programme to encourage senior management to interact with the firm’s advertising in the same way as its customers would. We don't know how many complaints were made by board members as a result!

Some of you will be aware that we recently fined an IFA £63,000 for failing properly to apportion roles and responsibilities to its senior management and for its failure to ensure that it took reasonable care to organise and manage its advertising function responsibly and effectively.

The message I want to leave you with here is this. The responsibility for meeting our standards ultimately lies with a firm's senior management and our move to a more principles-based regime will make senior management engagment more important than ever.

Second, issues around the clarity of what products do and the audience to whom they are targeted.

In a way it's a bit sad that this is an issue at all since it again falls under the category of the blindingly obvious. But we often find ourselves reminding firms to describe their products and services in a way that is relevant and meaningful to the intended target audience. You should ask yourself the question, “Does the promotion describe clearly the nature of the product?” For example, we have seen a product described as a “savings bond which is safe and secure” when in reality it is stock market based and therefore any return is not guaranteed and capital not secure. Further, it is not helpful to describe products in technical terms (a) because it is unlikely to optimise the appeal of the product and (b) because of the issues around financial capability that I mentioned earlier.

Third, explanations of risks and drawbacks. Advertisements should include a description of the risks or drawbacks so as to provide a balanced picture of what the product or service can deliver. We are often asked how much information on risks a firm is expected to include. We would not, of course, expect to see every possible risk detailed. We do, however, expect firms to use their judgement and common sense to identify the main issues to put upfront and to use straightforward wording which is likely to be understood by the target audience. The explanation of risks should have sufficient prominence and should not be buried in the small print or on the back page of a brochure. Believe me, people still do it.

Finally, percentages and headline claims. Plainly, unrealistic and misleading headline figures must be avoided. For example, headlines showing percentage rates that are only obtained if certain unrealistic criteria are met are just not on. I will come back to unrealistic claims in the area of general insurance in a moment.

So these are the four big areas in which we are particularly interested and which you can expect to form the core of our focus in the future. Getting them right will ensure that standards continue to rise to the benefit of all, not least the industry's reputation.

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Areas of ongoing concern

I have already mentioned that we have overall improvement in this standard of financial promotions over the last two years. But a quick word about some areas of ongoing concern.

Investment Promotions

As part of an in-depth review, we looked at advertising for children's products, pensions unlocking, structured capital-at-risk products (SCARPs), spread betting, tip sheets and venture capital trusts. We concluded that, overall, the quality is moving in the right direction. Increasingly, we are seeing:

• more risk information within the main body of the promotion and;
• fewer misleading headline claims.

For example, our VCT work over the past year has seen an overall improvement, particularly with intermediate websites. 90% of websites reviewed (10 out of 11) improved very quickly, some within days, after we published our concerns and contacted firms directly.

But we still have concerns about promotions with:

• insufficient consideration of target audience - for example, by using jargon in advertisements aimed at the mass market;
• a lack of clarity around the description of the nature of the product - for example, products marketed as ‘savings’ which are in fact equity investments; and
• a lack of balance - while risk warnings are increasingly included in the main body of promotions, we still have some concerns about the clarity with which key risks and drawbacks are presented.

Insurance

As with all new areas of regulation, we have taken a graduated approach in introducing the general insurance regime. Where our initial research has identified problems, we have worked with the industry to tackle them. We continue to pay particular attention to the higher-risk ‘protection’ products, such as critical illness cover and payment protection insurance.

While we have seen some improvement in overall standards, such as less promotional emphasis on scaremongering in critical illness, we remain concerned that there are a high number of promotions failing to meet the standards required in relation to price claims. In particular, we have seen many promotions which indicate or imply that a firm can: reduce the premium; provide the cheapest premium; or reduce the consumer’s costs, e.g. through price-matching or claimed savings.

Our chief concern here is that people are often encouraged to think that they can benefit from such an offer when, in reality, it is only available to a few.

By not setting out the basis for these claims, the adverts may be failing to satisfy the requirement of being be clear, fair and not misleading. And, while this gives rise to less potential consumer detriment than in the case of higher risk or more complex products, surely the industry itself must recognise the adverse reputational consequences in the form of lots of irate callers slamming the phone down in frustration when they are told that the offer isn't open to them. Our concerns have been confirmed by a number of reports we have received to our Financial Promotions Hotline.

As a result, we have undertaken a piece of thematic work to further investigate the standards of motor, home, contents and travel insurance that lead with price or savings claims. We will be publishing the outcome in the next week and will be posing the following challenges:

• Is there a mismatch between the general impression created and the experience of the target customer?
• Are price or savings claims made representative of those from which the target customer is likely to benefit? and
• Do the advertisements outline with equal prominence and sufficient clarity the basis on which the saving claims can be achieved?

These may sound obvious, but we are not seeing this thinking reflected in this advertising. We expect the industry to take urgent action to improve overall standards and you can expect us to be monitoring progress here very closely indeed.

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Mortgages

For mortgages, we reviewed three areas: sub-prime brokers, equity release and lenders. We consider mortgage broker promotions, and in particular those for sub-prime products, to be an area of higher risk because of the vulnerable nature of the target audience and the fact that taking out a mortgage is one of the most important transactions anyone does during their life. We continue to see too many firms which appear to be making no attempt to issue clear, fair and not misleading advertising.

We found that mortgage brokers in the sub-prime market who issued poor financial promotions usually had inadequate systems and controls overall and gave poor quality advice. In other words, poor advertising and other promotional activity is usually a sign of wider problems in the way a firm is managed and controlled

Over the past year, we have reviewed several hundred mortgage broker financial promotions, contacted over 200 of these firms to get them to withdraw or amend them, and carried out visits to the worst offenders. A number of these firms have now been referred to our Enforcement Division for further investigation.

That we are taking such action in this area is a signal of how seriously we are taking the problems I have highlighted. And I hope the message is clear: we need to see standards rising – and fast.

Future regulatory strategy

As I mentioned at the beginning, we see the provision of simple and understandable information for consumers as a key element in delivering a more efficient retail market and the financial advertising regime is a key element in that equation. Our approach to making this happen is undergoing significant change as part of our move to a more principles-based regulatory regime.

Making a successful transition will prove to be a big win for everyone - firms, markets and consumers. These include:

• firms will have greater flexibility to better align good outcomes for consumers with good business practice;
• better outcomes for consumers can be delivered through firms’ own initiatives and actions, rather than through regulatory detail; and
• a more principles-based approach challenges the FSA to keep our sights firmly fixed on addressing the big things that matter most.

However, we do, of course, acknowledge concerns about a more principles-based approach and the challenges that it poses for firms and for us.

I return to my Marmite analogy. We recognise that some firms may prefer the clarity and certainty associated with a rules-based approach. A more principles-based approach requires firms’ senior management to understand the outcomes we are trying to achieve for consumers – which in many cases ought to be shared outcomes - and to align them with their business practice. It requires firms’ compliance, legal and marketing teams to take more responsibility for delivering outcomes rather than following a pre-defined path. In terms of systems and controls, as I mentioned earlier, firms’ senior management should consider whether they have appropriate management information to satisfy themselves that their financial advertising is properly controlled.

From our side, it will continue to be important for us to help firms meet the principles. We will use our website and publications to communicate generally on the standards we expect and highlight good practice and concerns arising from our thematic work. The outcomes of formal enforcement action will also help here.

A more principles-based approach also requires our staff to become more experienced and confident in making good, outcome-focused judgements. Often, common sense judgement calls will be needed where there is some ambiguity in the issues at hand. In these circumstances, we recognise the importance of taking a fair and proportionate approach and for there to be grown up conversations with firms around outcomes rather than details. We are committed to helping our staff to further develop those skills.

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No discussion about retail financial services is complete without reference to the Markets in Financial Instruments Directive (MiFID). We are carrying out a review of the financial advertising regime as part of the simplification of the Conduct of Business (COB) sourcebook. The review relates only to investment business; general insurance and mortgages are not within the scope of the review. But this will result in a 50% reduction in the number of detailed rules. As we supervise financial promotions in an increasingly principles-based manner, we expect the transition to the new financial promotions regime in November 2007 to be smooth because the key outcome will remain as it is now: that communications are ‘clear, fair and not misleading’.

And a few words on future financial promotions work. We will continue to operate using a risk-based and more principles-based approach. In addition, we will continue our proactive surveillance of promotions for investment, general insurance and mortgage products and will tackle emerging risks using the full range of tools available to us. Some of the higher risk areas we will focus on include spread betting, the internet and direct mail. The results of our work will be published and we will be engaging with the industry and their advisers to spread good practice.

Finally, I'd also like to note that we are materially stepping up our collaboration with the OFT to ensure that our respective advertising requirements are better joined up and that we remove any unnecessary duplication or differences for those firms subject to both our regimes. This has already led to practical changes to make life easier for firms and we are looking to identify other areas in which to make progress.

Conclusion

I have cantered through a wide range of topics this morning. I very much hope that if I am addressing you again next year that I will be able to report on continued improvement in financial advertising and on a successful transition to more principles-based regulation, delivering real benefits to the industry and consumers. It really does present us with a fantastic opportunity to break away from the detail and focus on the big things that matter most.

Thank you again for the opportunity to address your conference.

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