Beijing Law Review
2013. Vol.4, No.1, 42-54
Published Online March 2013 in SciRes (http://www.scirp.org/journal/blr) http://dx.doi.org/10.4236/blr.2013.41006
42
Do You Know where Your Money Is? Product Disclosure
Statements for Discretionary Investment Services
Emily Lou
University of Auckland, Grafton, New Zealand
Received October 23rd, 2012; revised N ov ember 25th, 2012; accept e d D e cem ber 1st, 2012
New Zealand capital markets currently do not serve retail investors well, creating investor skepticism re-
garding participation. A recent Reader’s Digest survey rated financial advisers among the least trustwor-
thy of professions. This article maps the legal implications of the new measures introduced by the Finan-
cial Markets Conduct Bill 2011 to guard investor interests in relation to financial products and services.
The paper provides a useful critique of the proposed reforms, in particular, whether the “Product Disclo-
sure Statement” (PDS) and the new licensing of fund managers will give retail investors confidence in
investing through financial intermediaries. The paper concluded with recommendation for New Zealand
regulator to obtain inspiration from overseas model.
Keywords: Securities Law; Product Disclosure Statement; Financial Intermediaries
Introduction
A widespread perception exists that New Zealanders prefer
to invest in direct holdings of residential and commercial prop-
erty rather than in capital markets. These preferences are un-
surprising since the New Zealand capital markets currently do
not serve retail investors well, creating investor scepticism
regarding participation (Ministry of Economics, 2009). While
retail investors are encouraged to seek advice from licensed
advisers and intermediaries, scepticism about trusting their
money to fund managers is common. “The global financial
crisis is leading to a reassessment of financial sector regulatory
settings around the world, with a greater focus on transparency”
(Ministry of Economics, 2009). To make an informed decision
about the purchase of a financial product investors require ade-
quate information about the company offering the product, the
product offered, and associated liabilities and risks.
A recent Reader’s Digest survey rated financial advisers
among the least trustworthy of professions (Marriner & White,
2010). With 48 financial investment companies in New Zealand
having gone out of business in the past three years, causing
millions of dollars in losses to thousands of New Zealanders, it
would have been surprising had the survey result been any dif-
ferent. Whether investors receive sufficient disclosure from
their “agents” regarding the financial products into which their
money is being invested is debatable. To address this situation,
the New Zealand government has proposed new measures to
licence fund managers and supervisors. Additionally, a re-
placement for the prospectus and investment statement, called
the “product disclosure statement”, has been proposed to ad-
dress disclosure concerns (Office of Minister of Commerce,
2011). This article maps the legal implications of the new
measures introduced by the Financial Markets Conduct Bill
2011 to guard investor interests in relation to financial products
and services.
This article examines whether the Product Disclosure State-
ment (PDS) and the new licensing of fund managers will give
retail investors confidence in investing through financial inter-
mediaries, and provides suggestions regarding PDS disclosure
for Discretionary Investment Management Services. Section
Two defines financial intermediaries and addresses the issues
associated with the provision of information to retail investors.
Section Three presents a brief overview of the existing disclo-
sure provisions and measures that safeguard investor interests
in relation to investments made through an intermediary. Sec-
tion Four discusses whether the proposed PDS increases the
benefits to prospective investors from investing through Col-
lective Investment Schemes. This section is supplemented by
Section Five which discusses in detail whether the content of
the new regime will benefit indirect retail investors who invest
via Discretionary Investment Management Services rather than
Collective Investment Schemes. Section Six suggests adopting
a different framework based on the European/Australian model,
with both Europe and Australia having introduced documents
analogous to the PDS. Implications of requiring PDS disclosure
for Discretionary Investment Management Service are dis-
cussed throughout.
Financial Intermediaries and Disclosure
Philosophies
A complex financial system comprises both financial mar-
kets and financial intermediaries. Most securities regimes in
New Zealand require retail investors to be responsible for their
investment decisions, based on their assessment of their needs
and the suitability of particular investments for meeting those
needs. A financial intermediary is the most appropriate first
port of call for retail investors who have weak investment liter-
acy. However, the ma rket for financial intermedia ries is mixed,
with advisers and fund managers having variable expertise and
independence, and hence a poor collective reputation. Retail
investors thus have difficulty knowing to whom they can turn
for trusted service. Securities law regulates entities that invest
in financial assets on behalf of others, doing so primarily by

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requiring the disclosure of certain information to retail investors
and establishing governance requirements for issuers of secure-
ties. Major reforms of securities law are underway, but poor
implementation will cause as many problems as it resolves.
Retail Investors often lack understanding of and confidence
in purchasing financial products. Meanwhile, financial inter-
mediaries often take responsibility for managing client invest-
ments or savings, providing many circumstances in which po-
tential exists for a fiduciary relationship to arise (Ministry of
Economics, 2010). Numerous retail investors may share a fi-
nancial interest in a single financial product, creating free rider
and other collective action problems in monitoring the fund
manager and acting in the event of a breach of duty. Since indi-
vidual investors only own a small fraction of the Collective
Investment Scheme, they receive only a fraction of the benefits,
while bearing most of the costs. Where costs are disproportion-
ate to the expected benefits, investors have only a limited in-
centive to monitor and intervene. Passivity serves investor
self-interest, even if monitoring promises collective gains.
Financial products are often complex and difficult for non-
experts to evaluate; poor transparency makes it difficult to ver-
ify seller claims, and comparatively easy to conceal costs and
risks (Ministry of Economics, 2010). Financial products cannot
be tested before purchase, generally have no warranty, often
require long-term commitments, are critical for investor well-
being, and failures may take years to eventuate. Consequently,
regulatory regimes require disclosure to allow retail investors to
make informed choices.
Governance requirements set the requisite competencies, ex-
periences and on-going duties that fund managers and others
involved in investing or protecting investors’ money must meet.
The current governance requirements for collective investment
schemes ensure that fund managers have appropriate skills,
place duties on fund managers and trustees, and provide incen-
tives for them to act in the best interests of investors. However,
Collective Investment Schemes have diverse governance mod-
els and accountabilities, and hence varying levels of investor
protection. Investors therefore cannot be confident that their
funds will be invested in accordance with their best interests
(Ministry of Economics, 2009).
Who Are “Retail Investors”?
The term “retail investors” refers to investors with varying
levels of knowledge, aptitude and expertise in relation to un-
derstanding financial information, and to investors unable to
access the same information as financial professionals. Retail
investors have been described as “people who are very unen-
gaged by financial matters”, and “whose education is not up to
analysing financial documents” (Australian Securities & In-
vestments Commission, 2011).
The Financial Markets Conduct Bill 2011 defines a “retail
investor” as a “person who is not a wholesale investor”, where
“wholesale investors” include investment businesses, persons
participating in substantial investment activities, large entities
and government agencies. Furthermore, a person is a “whole-
sale investor” in relation to an investment offer if a minimum of
$500,000 is payable on acceptance of the offer, if the person
previously paid a minimum of $500,000 for the issuer’s finan-
cial products of the same class, or if they are an “eligible in-
vestor” who certifies themselves as knowledgeable. “Eligible
investors” are “either able to recognise deficiencies in the terms
of the offer and reject it on that basis or have a relationship with
the issuer that means they are unlikely to agree to unfavorable
offers without obtaining the required information and seeking
appropriate advice” (Ministry of Economics, 2010). Eligible in-
vestors may certify themselves as knowledgeable to access
“private offers” which issuers only make available to sophisti-
cated investors.
Most retail investors are non-expert investors with limited
investment literacy, skills and experiences. Improving financial
literacy and giving the public understandable financial informa-
tion are currently hot topics. Previous frameworks, such as the
Commission for Financial Literacy and Retirement Income,
were set up to help financially illiterate New Zealanders pre-
pare financially for retirement through education, information
and promotion. Evidence from behavioural economics and
surveys of financial literacy suggest that the public have a lim-
ited ability to understand financial information; thereby most
disclosure documents are clearly inaccessible to their intended
audience (Ministry of Economics, 2010). The ultimate object-
tive of any investment literacy initiative should be to ensure
that investors are as informed as they can be about their deci-
sions and are aware of when they need to seek advice. Retail
investors that lack the resources, time and commitment to re-
search often delegate day-to-day investment decisions regard-
ing their portfolios to a financial intermediary. Clear and un-
derstandable information is especially important when institu-
tions are investing on behalf of retail investors, as the rebuild-
ing of trust in capital markets is essential for investors.
Additionally, decision making by retail investors suffers
from the presence of “intuitive thought”, otherwise known as
the use of heuristics. Reliance on unconscious thought that
reduces complex decisions to simple thoughts leads to system-
atic error or biases. Investor cognitive capabilities limit the
effectiveness of a disclosure regime in aiding investment deci-
sions; accordingly, many investors rely on expert financial
intermediaries to make decisions on their behalf.
Who Are Financial Intermediaries?
The term financial intermediaries generally refer to parties
that acquire and/or dispose financial products on behalf of retail
investors. Such parties have the expertise, time and information
to break down the knowledge gap between providers and con-
sumers to help achieve efficient resource allocation by match-
ing consumers with products that best meet their needs and
appetite. Financial intermediaries also help process information
for investors, making useful information available to the public
and benefiting the market by supporting more informed com-
mentary and analysis (Ministry of Economics, 2010).
Financial intermediaries are particularly beneficial for inves-
tors who lack the time or skill to manage their own investments.
The advent of financial intermediaries has introduced many
more New Zealanders to the advantages of having fund man-
ager (Ministry of Economics, 2009) invest their money and
make decisions that, if competent, will achieve superior returns.
Collective Investment Schemes are an important option, not
least because they offer diversification through a combination
of shares, bonds and property in a way that exceeds the capa-
bilities of most investors. Retail investors are also encouraged
to seek advice from financial service intermediaries and thus
realize benefits such as asset growth, improved financial liter-
acy, and better understanding of the reasons for purchasing

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specific financial products and associated goals.
Most investment schemes demand high emotional intelli-
gence. Investors must resist fear and greed, the two great drivp-
ers of investment. The challenges facing investors are now
greater than ever. While frightening or exciting investment
information has always existed, the volume and frequency at
which investors receive such information, especially online, has
never been greater. Investors must not allow these scrambled
messages to distract them from their objectives. Therefore, over
the last 30 years investors have increasingly employed profess-
sional fund managers to administer their savings (Kathleen &
Bancorp, 2012). The Financial Markets Conduct Bill 2011
promotes robust safeguards for investors who entrust others to
invest money on their behalf.
Collective Investment Schemes
A Collective Investment Scheme (CIS) is defined as “an in-
termediary, in whom a subscriber pays money to another person
to invest, but the subscriber does not have day-to-day control
over investment decisions or the assets purchased using his or
her contributions” (Ministry of Economics, 2010). Fund man-
agers in CIS are responsible for making investment decisions in
accordance with the stated goals of the fund, and a relationship
is created whereby an investor delegates decisions about their
investment portfolio to fund managers (Ministry of Economics,
2010).
“Modern Portfolio Theory has taught us that the game of
stock picking is costly and futile for most investors, especially
small investors” Generally, retail investors do not have the
resources, knowledge or skills to undertake this role themselves,
and cannot access investment products that are reserved for
sophisticated investors and institutions or require a large in-
vestment. In a CIS, money from individual investors is pooled
and invested by a fund manager. CIS enable individual retail
investors to access a diversified portfolio of investments, suited
to their investment risk profile (Ministry of Economics, 2010).
Unit trusts, group investment funds and superannuation
schemes are the main types of CIS.
CIS have a fund manager, who is principally responsible for
the day-to-day management of the scheme and of individual
portfolios, including the implementation of investment strate-
gies, and the promotion of the scheme and individual portfolios
(Ministry of Economics, 2010). Unsophisticated retail investors
may lack the time, ability or inclination to conduct detailed
research to make informed investment decisions or effectively
monitor fund managers. Instead, they rely on fund managers to
have the specialist skills needed to invest successfully and to
act with integrity and competence. CIS also involve trustees,
who act on behalf of investors to monitor their investments, and
might be responsible for checking that fund managers comply
with the management agreement and invest in accordance with
fund objectives (Ministry of Economics, 2010). Currently,
regulation of CIS is sometimes inconsistent. The Financial
Markets Conduct Bill 2011 defines CIS as financial products.
Financial Adviser Services
The Financial Markets Conduct Bill 2011 regulates financial
adviser services to varying degrees via the Financial Market
Authority. The degree of regulation depends on the type of
financial adviser and the nature of their service. Financial ad-
visers are those who use appropriate asset allocation to help
clients maintain a desirable balance of investment income,
capital gains, and risk. The Financial Advisers Act 2008 defines
an adviser as a person who provides a “financial adviser ser-
vice”1 (s10), which includes a person who makes recommenda-
tions in relation to acquiring or disposing of a financial product,
and/or who provides an “investment planning service” (s11).
According to the Financial Markets Conduct Bill 2011, fi-
nancial adviser services also include “discretionary manage-
ment services” (s12), but otherwise are defined the same as in
the Financial Advisers Act 20082. Essentially, this service in-
volves managing individual investments under an investment
authority, allowing investors to hand over day-to-day manage-
ment of their investment portfolio to an authorised financial
adviser, who monitors their holdings and acquires or disposes
financial products on their behalf. The service provided by
financial advisers differs from a CIS in that each investor indi-
vidually holds the underlying financial product, rather than
holding an interest in a scheme that invests in those products.
The Financial Markets Conduct Bill 2011 treats licensed inter-
mediaries offering discretionary management as providing a
service rather than a product.
The Financial Advisers Act 2008 established a licensing re-
gime for financial advisers that include standards for disclosure,
competency and conduct, as well as a dispute resolution scheme
(Ministry of Economics, 2010). However, whether retail invest-
tors should rely solely on financial advisers remain debatable,
as many financial advisers work for or receive commissions
from issuers. Financial advisers offer no objectivity when they
manage products of the companies they work for, since com-
missions create a natural conflict of interest. Investors must
ensure they know exactly what they are purchasing, and should
ask if other investments can achieve the same objective at lower
cost and risk. The core problem is a lack of disclosure require-
ments, which means that shareholding structures and other
financial relationships remain hidden.
Legal Background
Retail investors currently receive an “investment statement”,
and are entitled to receive a “prospectus” upon request3. Cur-
rently, regardless of security type, one set of requirements ex-
ists for investment statements of newly offered securities4. Lit-
tle reliable comparative information exists regarding fees and
returns on these products, meaning the available information is
of little use to most retail investors (Ministry of Economics,
2009).
1Financial Advisers Act 2008.
2See, for example, the direct reference to s 12 of the Financial Advisers Act
2008 made in cl 415 (2) of the Financial Markets Conduct Bill 2011when
defining the meaning of “discretionary investment management service”.
See also the definition of “wholesale investors” in the Financial Markets
Conduct Bill 2011 (Consultation Draft), s 1 cls 3 and 32 - 37;compare this
with the Financial Advisers Act 20 08, ss 5B-5D.
3Securiti es Act 1 978 , s 33 (1). Th e Secu ri ties Act 19 78, s s 33 and 37r equ ire
an investment statement and prospectus to accompany all issues of “securi-
ties” to “the public”. See also Geof Mortlock “New Zealand’s Financial
Sector Regulation” (2003) 66 RBNZ Bulletin 5 at 37; See generally Rober
t
J
ones Investment ltd v Gardne
r
(1991) 6 NZCLC 68,514 (HC); Kiwi Co-
operative Daries Ltd v Securities Commission (1994) 7 NZCLC 260,519
(HC); Securities Commission v Kiwi Co-operative Dairies Ltd (1995) 7
N
ZCLC 260,828 (CA).
4Securities Regulations 2009, schedule 13. A particular form of investment
statement is required for moratorium proposals under the Securities (Mora-
torium) R egulations 2009.
44

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Collective investment schemes, which are often the most ap-
propriate product for relatively unsophisticated investors wish-
ing to enter the market, are currently regulated according to
their legal form and how they are described, rather than their
economic substance (Ministry of Economics, 2010). This situa-
tion allows issuers to avoid regulation by special structuring of
securities (Ministry of Economics, 2010). For example, if the
issuer structures CIS as equity (e.g. redeemable preference
shares), they are not supervised by a trustee or statutory super-
visor, do not have to comply with a trust deed, and can avoid
disclosure specific to collective investment schemes5. The trus-
tee, who is primarily responsible for the management and ad-
ministration of the scheme, may use the trust deed to delegate
many of these functions to the manager to perform on their
behalf, meaning they owe no express standard of care to the
investor.
Problems with Existing Regulations
Lack of Transparent Disclosure
New Zealand’s regulatory regime for CIS has been reviewed
by the International Monetary Fund and Morningstar (Reken-
thaler, Swartzentruber, & Sin-Yi Tsai, 2009), a provider of
independent investment research. Both organisations judged
New Zealand to have poor regulation of financial intermediary-
ies, particularly CIS, and identified issues of concern for invest-
tors. Most of the identified issues involved disclosure and
transparency, particularly a lack of transparency regarding fees
and information telling investors exactly what they were in-
vesting in (Ministry of Economics, 2010).
Retail investors currently receive an “investment statement”
from financial advisors, and are entitled to receive a “prospec-
tus” upon request6. An investment statement provides key in-
formation in a “question and answer” format, and is an “adver-
tisement” for the purposes of the Securities Act 19787. The role
of an investment statement is to assist prudent but non-expert
persons in their decision-making, and to draw their attention to
important information8. Information provided in the investment
statement includes risks and returns, investment type, people
involved in the issue and where to obtain more information9.
The prospectus provides more detailed information about the
offer and the circumstances of the issuer, and is particular to the
investment type (Office of the Minister of Commerce, 2011).
Given that many retail investors have limited investment lit-
eracy, most disclosure documents are clearly inaccessible to
their intended audience (Ministry of Economics, 2010). Evi-
dence from behavioural economics and surveys of financial
literacy suggest that the general public have limited ability to
understand financial information (Ministry of Economics,
2011). Moreover, disclosure documents are typically poorly
structured, and too long and confusing. Additionally, the in-
formation presented in disclosure documents is not easily com-
parable across products even in the same product class, limiting
the ability of investors to compare risk and return trade-offs and
thus make informed decisions, as well as effective market
competition (Ministry of Economics, 2010). Transparency in
portfolio holdings allows investors to understand what funds
invest in and where potential risks lie. New Zealand and Aus-
tralia are the only two countries out of 22 countries studied by
Morningstar that do not require financial advisors to provide
their clients with portfolio holding information (Morningstar
Fund Research, 2011).
The Capital Development Task Force concluded that the
current disclosure regime is “not sufficiently standardised, con-
cise, simple or understandable, and is of little use to most retail
investors” (Ministry of Economics, 2009). Even where key
information is disclosed in a concise and simple manner, indi-
vidual firms cast their data in the most favourable light, making
it difficult to compare products (Ministry of Economics, 2009).
This is particularly true of fees disclosure for CIS. Fees are a
key element in investment decisions, but different providers
often calculate and classify them differently. Overall, the cur-
rent information disclosure regime is costly for issuers and yet
largely ineffective for investors (Ministry of Economics, 2010).
Lack of Regulatory Certainty
Current regulation of CIS contains numerous gaps and is in-
consistent across different legal structures (Ministry of Eco-
nomics, 2010). The inconsistency of governance and legal ob-
ligations across the various legal forms that CIS can adopt has
led to inconsistency in both investor rights and fund manager
duties. Consequently, no minimum standards exist to protect
investors.
Where regulation imposes governance standards, these need
to be as consistent as possible between like products to avoid
misleading and confusing retail investors. Particularly, the abil-
ity of issuers to name products differently from the underlying
economic substance of the investment inhibits the ability of
investors to make informed decisions (Ministry of Economics,
2010). Currently, KiwiSaver, unit trusts and superannuation
schemes, which all involve contracting out investment deci-
sions to a professional or third party, have different regulatory
regimes, with different duties owed to investors. This situation
creates confusion for investors and provides scope for regula-
tory arbitrage, whereby firms capitalise on regulatory loopholes
to circumvent unfavourable regulation.
5An example of this classification is found in the Securities Act (Car
b
on
Logic Limited) Exemption Notice 2007. The notice states “the securities
being offered are redeemable preference shares, but the investment will
operate closer in substance to a managed fund than an ordinary offer o
f
equity securities. In particular, transfers of shares following the initial offer
will be offered at a price determined by reference to the net asset value o
f
the fund, rather than at a fixed price”.
6Securities Act 1978, s 33 (1). The Securities Act 1978, ss 33 and 37require
an inves tment statement and prospectus to acco mpany all iss ues of “securi-
ties” to “the public”. See also Geof Mortlock “New Zealand’s Financial
Sector Regulation” (2003) 66 RBNZ Bulletin 5 at 37; See generally Rober
t
J
ones Investment ltd v Gardner (1991) 6 NZCLC 68,514 (HC); Kiwi Co-
operative Daries Ltd v Securities Commission (1994) 7 NZCLC 260,519
(HC); Securities Commission v Kiwi.
7Co-operative Dairies Ltd (1995) 7 NZCLC 260, 828 (CA).
Securities Act 1978 ss 2A, 38, 38C and 38E; and Securities Regulation 2009
sch 13.
8Securities Act 1978 s 38D.
9Securities Regulation 2009, sch 13.
Currently companies can choose to issue specially structured
shares with rights equivalent to debt security or interests in a
CIS, but which the Securities Act treats as equity securities
(Ministry of Economics, 2010). Securities law generally im-
poses fewer regulatory requirements on equity securities than
other securities. For example, by structuring debt as equity, the
issuer is not supervised by a trustee, and does not have to com-
ply with a trust deed. Where instruments are not clearly catego-
rized as equity or debt, categorisation is largely left to the issuer

E. LOU
and their choice of description.
Multiple CIS structures with different oversight and oblige-
tions for fund managers can also be difficult for investors to
understand and differentiate. This complexity can reduce the
effectiveness of monitoring of schemes and fund managers. A
lack of proper monitoring and enforcement can lead to a lack of
competition, as investors cannot easily determine which sche-
mes are better managed and provide good value for money
(Ministry of Economics, 2010).
Inadequate Duties Owed by Fund Managers
The current regulatory regime contains gaps that allow con-
duct damaging to investors. In a CIS, an agent essentially man-
ages investor money and invests on their behalf. Where the
scope of the direct relationship with individual investor is un-
clear, the risk that issuers of CIS will not act in the best interest
of investors significantly increases (Ministry of Economics,
2011). Controversy around fund performance figures issued by
Huljich Funds Management is a good example. For some of the
current CIS structures used in New Zealand, (e.g.: KiwiSaver)
only the trustee or statutory supervisor owes a direct duty of
care to investors.Therefore, they are primarily responsible for
the accuracy of disclosure documents and advertisements and
owe a legal duty of care to investors.The fund manager of CIS
has only a contractual relationship with the trustee and no direct
duty to investors. Accordingly Fund Manager of Huljich alleg-
edly made misleading claims about the performance of the
Huijich KiwiSaver scheme (Mace, 2011). Peter Huijich has
been fined $112,500 in the Auckland District Court for mis-
leading investor through disclosures about his KiwiSaver
scheme (Fletcher, 2010).
The fund management agreement, a contract between the
trustee or statutory supervisor and the manager, determines the
obligations on the manager of a CIS. Investors are not party to
the fund management agreement or any delegation documenta-
tion (such as the investment management contract). Problems
can arise because the fund manager typically is also the fund
founder. This situation places the fund manager in the driving
seat when negotiating the terms of the contract with the trustee
or statutory supervisor. Consequently, the standards in the con-
tract will not necessarily be in the best interests of the investors
and are often insufficient to mitigate the conflicts of interest
inherent within investment schemes (Ministry of Economics,
2010). The fund manager of a unit trust10 owes some specific
duties to investors, but these duties remain unclear to industry
participants and investors, are difficult and expensive for indi-
viduals to enforce, and remain little tested in law (Ministry of
Economics, 2010).
CIS contain significant assets owned by a dispersed group of
investors but controlled by a fund manager with considerable
ability to control information flows. Investors in a financial
product often have very limited means of assessing the capacity
of the issuer to deliver on their promises and claims, therefore it
is important that fund managers of CIS observe a high standard
when operating the scheme as well as providing sufficient dis-
closures.
The Proposed Reforms
Addressing Lack of Disclosure
The Financial Markets Conduct Bill 2011 proposes intro-
ducing new guidelines for securities issuers, directors and their
advisers, to replace the current system of pre-vetting prospec-
tuses and investment statements with a requirement for a single
product disclosure statement (PDS) tailored to the needs of
retail investors. The PDS should be standardised, concise, sim-
ple and understandable to facilitate the comparison of compet-
ing products (Office of the Minister of Commerce, 2011). The
PDS would target less sophisticated investors and be presented
in a way that induces such investors to read and understand it
(Ministry of Economics, 2011). Once issuers became familiar
with producing these type of short PDS, these documents
would be less costly for issuers to prepare than the current in-
vestment statement (Ministry of Economics, 2010).
Australia and New Zealand are the only two nations among
the 22 countries surveyed in the Morningstar Global Investor
Experience 2012 study without mandatory disclosure of portfo-
lio holdings (Kathleen & Bancorp, 2012). Disclosure of portfo-
lio holdings refers to public release of the specific stocks, bonds
and other securities that constitute the portfolios of pooled in-
vestment vehicles. The MED proposes that fund managers pro-
vide regular access to a breakdown of their funds to better in-
form investors of how much of their money is invested in
shares versus property, bonds and cash (Ministry of Economics,
2010).
Substantially similar products in the PDS will be disclosed in
the same way to enable comparability between similar products
on offers, while ensuring investors receive the most relevant
information (Ministry of Economics, 2010). Standardization
would be greatest for CIS. The new rules would require all
collective investments to report performance and returns, fees
and costs, and other key information in a uniform presentation
standard that facilitates comparison of funds (Ministry of Eco-
nomics, 2010). The industry has always objected to such dis-
closure, saying it would lead to individual managers copying
competitors. This attitude reveals a mind-set that was criticised
by the Capital Market Development Taskforce, which said that
fund managers and their supervisors should be directly respon-
sible for putting investor interests first (Ministry of Economics,
2009). Investors thus should be armed with as much informa-
tion as possible, right down to the companies or securities their
money is invested in.
Addressing Regulatory Uncertainty
The Financial Markets Conduct Bill 2011 proposes creating
a single regime that would apply to all structures that are, in
substance, collective investment schemes. The legal form of
schemes would be flexible, but would have to comply with a
common set of substantive requirements to ensure consistent
minimum investor protections (Ministry of Economics, 2010).
This approach is one of the “substance over form”, if a scheme
falls within the definition of CIS, then it will be captured by the
regime and it will be required to meet the substantive regulatory
requirements for CIS (Ministry of Economics, 2010). This
10Unit Trust Act 1960 S2(1). See Unit trust means any scheme or arrange-
ment, whether made before or after the commencement of this Act,that is
established under New Zealand law and that is made for the purpose or has
the effect of providing facilities for the participation, as beneficiaries under a
trust, by subscribers or purchasers as members of the public and not as an
association , in income and gains (whether in the nature of capital or income
)
arising from the money, investments, and other property that are for the time
being subje ct to the trust.
46

E. LOU
would ensure consistent regulation of financial products, and
would limit opportunities for issuers to avoid regulation through
careful transactio n structuring.
The Bill prescribes a standardized set of duties for all fund
managers and trustees, regardless of investment vehicle type.
All CIS will have a fund manager, which would be the issuer,
and an independent supervisor (e.g. for a trust, the trustee; or
for a company, an independent supervisor). While a mandated
set of duties is desirable, the duties of fund managers and trus-
tees would need to be sufficiently flexible to accommodate the
various legal forms of CIS, or provision would need to be made
for exemptions dependent on circumstances. Relatively high
duties would provide appropriate accountability to investors,
and are unlikely to impose significant cost since many of the
duties already exist in legislat i on .
Addressing the Inadequate Duties Owed by Fu nd
Managers
The Bill assigns scheme managers primary responsibility for
scheme mana gement and administ ration, including offering and
issuing interests in the scheme and managing scheme assets
(Ministry of Economics, 2011). The scheme manager will be
legally responsible for investment decisions and owe direct
duty to the member, even if they have delegated this function to
an investment manager. Managers will be required to act in the
best interests of members and to exercise the care, diligence,
and skill that a prudent person acting as a professional manager
would exercise in managing the affairs of others. Providers and
fund managers putting investor interests first will increase
competition among CIS.
CIS must be externally supervised, and supervisors owe par-
ticular duties to investors. The role of supervisors will be to
ensure that issuers are accountable, protect investor assets from
fraudulent practices, and provide investors with mechanisms to
monitor issuers and participate in collective decision making
(Ministry of Economics, 2010). Particularly, supervisors will be
responsible for ensuring the custody of scheme assets and su-
pervising specific requirements such as pricing and valuation.
Both supervisors and fund managers will be registered as fi-
nancial service providers under the FSPA, and belong to a con-
sumer dispute resolution scheme that provides investors practi-
cal access to redress. Supervisors will be licensed in accordance
with the regime set out in the Securities Trustees and Statutory
Supervisors Bill (Ministry of Economics, 2010).
The Financial Market Conduct Bill 2011 requires that man-
agers of CIS and financial intermediaries offering investment
services be licensed unless exempted. Licensing should provide
greater protection for investors by ensuring fund managers are
“fit and proper persons”, and providing for direct regulatory
oversight (Ministry of Economics, 2010). Licensing is intended
to ensure issuers protect investor interests, are subject to con-
sistent minimum standards of entry, are competent to carry out
their functions, are of good and sound character, and that the
Authority is satisfied they will act honestly and with integrity in
performing their functions.
In many ways, the Bill will merely result in New Zealand
fund managers catching up to best practice in other parts of the
world. Under the Bill, both investors and the industry will be
better off, with investors enjoying improved protections and
consequently more investors putting their money into CIS.
Problems with the Proposed Reforms
Collective Investment Scheme vs Discretionary
Investment Service
A closer examination of the Financial Markets Conduct Bill
reveals that a Collective Investment Scheme (CIS) is a licensed
intermediary regulated as a “financial product”11; meanwhile, a
financial adviser providing a Discretionary Investment Man-
agement Service (DIMS) is considered to be a licensed inter-
mediary providing a financial “service” rather than a product12.
Consequently, investments offered by financial advisers are
excluded from the definition of “financial product”13. Under the
bill, PDS will only be provided to retail investors making direct
investments through CIS, since offers for DIMS are deliber-
ately exempt from disclosure using a PDS14.
Licensed providers of prescribed intermediary services must
provide retail investors with a “Service Disclosure Statement”
at the earliest opportunity and before giving any financial ad-
vice15. Disclosure statements provide information to help retail
investors decide whether to purchase the market services of-
fered by the licensee, or provide the licensee with fresh instruc-
tions related to service provision16. Restated, investors who
invest through a licensed intermediary will not compulsorily
receive a PDS, and therefore will not necessarily possess in-
formation on the financial product in which their money is in-
vested. Authorised advisers providing DIMS thus would be
responsible for judging the adequacy of the information and
assurances provided by the issuer and hence making sound
investment decisions.
Conceptually, exempting Licensed Service Intermediaries
from providing investors a PDS may be appropriate, since such
investors rely on the expertise and ability of the adviser to make
investment decisions for them. Investment advisers provide
investment advice or investment planning services to clients,
and a service disclosure statement may be sufficient, as it in-
forms investors of the limitations of the service provided.
However, since the new Financial Advisers Act 2008 is still
close to implementation, such an exemption could be seen as a
legislative endorsement, as it relies on advisers to voluntarily
provide product disclosures, especially given the recent finance
company collapses. The public currently has little confidence in
financial advisers, or in providing them additional exemptions,
and it may not be in the interests of investors for government to
boost their confidence via legislative endorsement (Institute of
Finance Professionals New Zealand Inc, 2010). Trust needs to
be earned instead of legislated.
On the one hand, investors in a pooled CIS can be considered
more vulnerable in relation to DIMS, and thus to require more
11Financial Markets Conduct Bill 2011 (consultation draft), cl 9(2), sch1cls
6 - 7.
12Financial Markets Conduct Bill 2011 (MED 1235489 explanatory note)at
[31-33].
13Financial Markets Conduct Bill 2011 (consultation draft), cl 9 (2)(c),schl
1 cls 6 - 7.
14Financial Markets Bill 2011 ( consultation draft), sch 1 cls 6 - 7.
15Ibid, cl 404.
16Financial Advisers Act 2008, s 23, the disclosure statement is required to
provide information such as : financial adviser type; services provided;fees
and remuneration; any material interests, relationships or associations; dis-
pute resolution arrangements; relevant professional or business experience;
criminal convictions; disciplinary proceedings; advise findings by the court
or the FMA; a n d any bankruptcy ot ot her insolve ncy proceedings.

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protection via a PDS disclosure. Managers of CIS make all the
decisions about which securities to invest in and when and in-
vestors lack direct control over their portfolio. Additionally, if
the interests of individual investors conflict with those of the
fund as a whole, the interests of the fund will always prevail.
Any fiduciary duty is owed to investors as a group, namely to
the scheme, and not to investors individually. Similarly, the
liquidity policies of CIS are not always fair to investors, par-
ticularly where the scheme is underperforming. For example, a
scheme having difficulty liquidating assets might allow inves-
tors to redeem their units on a first come first served basis.
Until the scheme is “rebalanced” with more liquid assets, in-
ves to rs re mai ni ng in th e s ch eme are then exposed to higher risk,
and those exiting the scheme benefit at their expense.
On the other hand, DIMS generally involve the relevant in-
vestments being held in trust for individual investors. Author-
ised advisers manage each investor’s funds in an individual
account, and therefore DIMS resemble a service rather than a
product. DIMS do not require the same level of supervision as
pooled vehicles, as fewer issues arise with investor entry and
exit. Individual investors have more direct ownership and ulti-
mate control of the financial asset. Ultimately, no significant
regulatory gap exists in relation to such schemes. To the extent
to which they dispense advice or handle client money, various
regulations already apply to financial intermediaries. The Fi-
nancial Service Providers Act requires such investment services
to be registered and, where available to retail clients, covered
by a dispute resolution scheme. Likewise, the Financial Advis-
ers Act 2008 established a licensing regime for financial advis-
ers that include standards of disclosure, competency and con-
duct, as well as a dispute resolution scheme. This paper focuses
on whether DIMS should be subject to mandatory PDS provi-
sion, and whether the services of financial intermediaries
should be regulated in the same way as collective investment
products in other respects, such as the duties of the fund man-
ager. Scheme governance is not discussed in detail.
Nevertheless, the main consideration is management rather
than direct versus indirect ownership of the underlying scheme.
In substance, authorised advisers operating DIMS are providing
an equivalent service to fund managers offering a CIS, which
allows retail investors to delegate their day-to-day investment
decisions and portfolio management to an investment service
expert. The fundamental difference between DIMS and funds is
that DIMS offer personal service, in which an authorised ad-
viser monitors and manages a portfolio in accordance with
parameters agreed with the relevant client (Fund Advisers,
2011), whereas CIS offers a group service in which assets are
pooled for efficiency and convenience. Pooling should not be
the basis for judging the level of investor protection. The Bill is
intended to protect retail investors with weak investment liter-
acy, obviously including those whose lack of knowledge leads
them to allow experts to acquire and dispose financial products
on their behalf. Pooling is not a useful concept in determining
whether a PDS should be required. The author believes that
over time technology will likely progress to enable product
providers to offer an individual account style product which is
substantially a CIS but avoids critical safeguards such as a PDS,
because it technically does not pool investor assets.
Practical Consequences of Differing Disclosure Set Ups
Under the exemption from PDS disclosure for licensed ser-
vice intermediary, the adviser providing a DIMS is responsible
for judging whether the information and assurances provided by
the issuer are adequate. This is analogous to the role played by
a CIS (Ministry of Economics, 2010). When a retail investor
invests in a fund, the fund manager makes the investment on
their behalf. However these investments are subject to PDS
disclosure obligations under the Financial Markets Conduct Bill.
There are consequences in having different disclosure set ups
between a CIS and a DIMS. Since the dominant purpose of
regulating disclosure about financial products is to seek to bal-
ance information asymmetries, as the issuer—or in this case the
DIMS advisers—are expected to possess more relevant and
spe ci fic in for mati on abo ut who is offering the fin ancial product,
the product itself and the terms and conditions on which it is
managed than the investor is expected to possess (Ministry of
Economics, 2010). This information asymmetry disadvantages
the investor, resulting in an inefficient DIMS market.
Information asymmetry refers to the situation where one
party, usually the seller, has information that is not available or
understandable to the other party, usually the buyer (Kukoc,
1998). Product providers have an incentive to misinform or not
inform investors about product shortcomings (Ministry of
Economics, 2010). DIMS advisers may be reluctant to reveal
unfavourable information about product risks and returns, as
that would reduce investors’ demand for their service and the
amount of fees they could charge. Hirshleifer et al. (2002) em-
ploys “behavioral models”, which assume that there are two
types of consumers: fully rational consumers, who could cor-
rectly infer from a DIMS’ disclosure the relevant quality; and
boundedly rational consumers, who naively neglect to draw
inferences from the fact that the DIMS does not disclose prod-
uct information. The presence of boundedly rational consumers
introduces at least some incentive for a DIMS adviser not to
disclose information about product quality, even if it is costless,
although they will have an incentive to reveal favourable in-
formation. In situation of selective disclosure, the market
mechanism will still work but with a longer time for adjustment
and with unnecessary loss resulting from the consumption of
time and cost, and from experience-based adjustment.
The lack of product disclosure for a DIMS can also create
adverse selection situations, where investors cannot distinguish
between different risk classes of DIMS. This type of situation
might have a significant effect on competitive DIMS markets.
Within each risk category, some people will have a higher than
average risk of loss and some a lower than average risk. Those
with higher than average risk will tend to find a DIMS attract-
tive and buy it, and those with lower than average risk will not.
The more people from the first group and the fewer from the
latter who buy DIMS, the higher the average risk. As a result,
the price of DIMS goes beyond an actuarially fair level. To
quote Rothschild and Stiglitz: “the high-risk individuals exerted
a dissipative externality on the low-risk individuals” (Roths-
child & Stiglitz, 1976). Therefore, an improved flow of infor-
mation from policy makers to financial intermediaries is an
important precondition for actuarially fair pricing of financial
products and an efficient financial service market.
Disclosure of financial products’ information is a critical
precondition for a better and more effective financial market. It
stimulates better performance and enhances the transparency
and accountability of market participants. PDS disclosure can
help regulators to reduce the risk of losses arising from the
financial failure of the DIMS. Differing disclosure regimes
between CIS and DIMS result in information not being pre-
48

E. LOU
sented in a standard way to investors, and in investors not being
able to compare DIMS services directly with pooled vehicles
such as a CIS through point of sale PDS and ongoing disclo-
sures. The overall lack of meaningful information, combined
with limited investment options, results in a low level of inves-
tor trust and confidence in the DIMS sector. It is not difficult to
see why many investors would prefer to invest in a CIS, as
financial product information is often much easier for retail
investors to understand and investors receive a greater level of
protection in the form of PDS disclosure. Until retail investors
feel they can trust financial advisers and understand what they
are paying for, it is unlikely the use of DIMS will increase. A
DIMS is a viable alternative to a CIS as it allows many of the
same benefits as a CIS, such as economies of scale and access
to a wider range of investments. There should be no unneces-
sary regulatory impediments to competition in the CIS sector.
The ability of alternative products to compete in the CIS arena
on a level playing field would be a useful strengthening of
market discipline. For example, such competition would force
more discipline in revealing true costs and portfolio transaction
data. That would improve individual investors’ ability to verify
the performance of their long-term investment products (Minis-
try of Economics, 2009).
Importance of Product Disclosure Information to Retail
Investors
Given the above findings, a key consideration is whether
PDS should extend to schemes that do not involve pooling of
investor funds. For example, DIMS involve an authorised ad-
viser investing money from individual investors in assets held
on trust and providing a return from those assets less fees. New
Zealanders widely perceive the primary job of a DIMS adviser
as being to pick a fund or fund manager that will deliver high
returns. licensed services intermediaries are well regulated and
policed via regulating organisations, such as professional bod-
ies, legal regulations, the Financial Advisers Act, the courts17
and, most importantly, self regulation through reputational risk
(Bank of New Zealand, 2010). Also offer documents and ser-
vice information, such as information on fees, can be ade-
quately disclosed through the Service Disclosure Statement.
Unfortunately, investor “return” is largely determined by the
predominant asset class. Studies over several decades show that
assets held and holding structure determine investment portfo-
lio performance. Allocation between asset types, and size of
regular investor contributions to their portfolio, are the primary
determinants of wealth accumulation. Recent studies found
evidence that following the Global Financial Crisis, transpar-
ency has become more important for investors holding New
Zealand funds (Kathleen & Bancorp, 2012). PDS disclosure
provides more detailed information allowing investors to better
monitor DIMS investments. First, PDS can help identify over-
laps in holdings and improve investor asset allocation and
portfolio diversification. Second, increased transparency en-
ables investors to better monitor fund compliance with stated
objectives, thus enhancing investor confidence in the invest-
ment. Third, PDS disclosure improves investor ability to track
portfolio manipulation, such as portfolio pumping18.
Exempting DIMS advisers from providing registered PDS
could create significant problems. Investors who need experts
to invest on their behalf are generally unsophisticated; if they
lack the knowledge or resources to evaluate an issuer they are
unlikely to be competent to evaluate an intermediary such as a
DIMS adviser (Bank of New Zealand, 2010). Recent studies
have found evidence that New Zealand authorised advisers
providing DIMS are deviating from their stated investment
objectives, with equity-oriented funds providing returns that
differ significantly from underlying equity returns (Fowler,
Grieves, & Singleton, 2010). This further suggests that poor
information about portfolio asset allocation limits opportunities
for investors to diversify. Studies thus have found support for
PDS disclosure requirements whereby DIMS advisers would
disclose holdings and better serve investors. Investors who
would previously have placed their money in the hands of
authorised advisers and left them to it are now asking questions
about risks and returns, and the products in which their money
is invested. Clients want more options and easier access to
those making decisions regarding their accounts. Many retail
investors want more information from financial advisers, for
example their reasons for selecting certain investments, or
forecasts of capital gains for the coming year, either for educa-
tional purposes or piece of mind. Notably, some authorised
advisors offering DIMS voluntarily disclose portfolio informa-
tion via a PDS to encourage investors to invest. This suggests
that effective product disclosure is required to assist investors,
either on their own or with the assistance of advisers, to com-
pare investments and allocate money to the best investment
opportunities (Ministry of Economics, 2010).
The Financial Advisers Act 2008 provides New Zealanders
engaging the services of a financial adviser with confidence
that their adviser will have a minimum level of competency.
However, the Act does not necessarily indicate the quality of
provided advice. Irrespective of the Authorised Financial Ad-
viser Regime, many investors are reluctant to trust advisors.
The Financial Markets Conduct Bill and the Financial Advisers
Act regime have been developed for separate policy reasons
and so in principle should be complementary. The availability
of a PDS should lead to more transparent performance report-
ing, and help retail investors understand and monitor the in-
vestment activities of the DIMS adviser. The fundamental prin-
ciple of Securities Law is that the issuer has responsibility and
liability for making necessary disclosures to retail investors
(Bank of New Zealand, 2010). The reliance of investors on
DIMS advisors creates responsibility for those advisors to pro-
vide a PDS.
Standardised Disclosure to Improve Competition
The main argument for regulating DIMS is that they can
have fee structures, investment mandates, returns, and asset
holdings similar to CIS. DIMS can be extremely attractive to
retail investors by offering a specifically tailored investment
objective and strategic product portfolio allocation imple-
mented by an authorised adviser. For many investors, annual
meetings with their authorised financial advisers are their only
interaction with financial products. Provision of PDS thus is
necessary to improve competition in the Licensed Service In-
17In New Zealand auditors can be liable for failing to detect serious irregu-
larities and frauds in a disclosure document if the circumstance give rise to a
duty of car e (Boyd Knig ht v Purdue [1999] 2 NZLR 278 (CA)). The test,as
set out in the UK decision of Caparo v Dickman [1990] 2 AC605, is rela-
tively narrow.
dustry and support investor competence, providing crucial dis-
18Portfolio pumping is the act of bidding up the value of a fund holdings
before the end of a repor ting period to boost fund performance results.

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closure of how funds invested will be managed, including in-
vestment style and type of financial products. Disclosure of
PDS is important because it raises social welfare by improving
investor choice, and improving DIMS product quality.
The Financial Markets Conduct Bill proposes that straight-
forward collective investment scheme PDSs be required to
contain a summary of all of the key information a client needs
before making a purchase decision. The PDS should follow a
prescribed format, with a specified number of headings, topics,
and in exceptional circumstances even prescribed text (Ministry
of Economics, 2010). PDS content is prescribed in regulations,
and is intended to be tailored for different products and de-
signed to enhance the comparability of similar offerings19. This
follows the approach taken to development of PDS in Australia,
which is progressively working through the products to produce
tailored documents, starting with CIS (Ministry of Economics,
2011). Since CIS can easily standardise information. Similarly,
PDS for DIMS, which provide substantially the same service as
CIS, should also have use an accessible format that retail in-
vestors can understand and use to make comparisons among
alternatives. Comparable disclosure of functionally like in-
vestments is important. If disclosure regimes set different stan-
dards, and require the disclosure of different information and its
presentation in irreconcilable formats, comparison of potential
product returns will be impeded.
From the perspective of investors, numerous disclosure re-
gimes have increased the difficulty of investment decision-
making. Retail investors benefit from standardized presentation
of their portfolio data. When portfolio information is not easily
comparable across products even in the same product class the
ability of investors to compare available risk and return trade-
offs and make informed decisions is impeded, as is competition
in the DIMS market. However, the author notes the uncertainty
regarding the implementation of standardizing portfolio report-
ing through PDS, as though these schemes were CIS. First,
absolute uniformity of content is unnecessary, given that the
nature of DIMS means disclosure is far more transactional for
them than for CIS (Bank of New Zealand, 2010). The author
thus agrees that where appropriate, PDS requirements for
DIMS should be principle based20 and not overly prescripttive
regarding presentation format.
Alternative Approaches
Other jurisdictions have chosen different frameworks for
simplifying product disclosure requirements for financial in-
termediaries. Regulation aligned with international best practice
can increase New Zealand’s attractiveness to both domestic and
international investors. New Zealand also has potential export
opportunities as a domicile for international funds. However,
realizing such opportunities requires a world class regulatory
regime. Particularly, the New Zealand regime would need to
match or better the European Union’s Undertaking for Collec-
tive Investment in Transferable Securities regime (UCITS),
which is generally considered the benchmark for international
best practice (Ministry of Economics, 2010). Notably, Austra-
lian provisions regarding PDS have inspired the Financial
Markets Conduct Bill, an obvious choice given the close Trans-
Tasman economic relationship and aspirations for a single
market21.
The Product Disclosure Statement in Australia
Most offers of securities to retail investors in Australia re-
quire a disclosure document, intended to help retail investors
assess the risks and returns associated with an offer and make
informed investment decisions. Retail clients receive numerous
disclosure documents in the process of acquiring financial
products through financial service providers; together these
documents provide an integrated disclosure scheme (Central
Bank of Ireland, 2007).
The Statement of Advice (SOA)22 should be prepared by a
financial adviser providing personal advice, and should contain
a statement setting out the advice and an explanation of the
basis upon which it was given, as well as a disclaimer regarding
advice based on incomplete client information. The SOA must
indicate who provided the advice and detail any related remu-
neration or other benefit received by the adviser or their associ-
ates which could influence the content of their advice.
The Financial Service Guide (FSG)23 must be provided by a
financial adviser before any financial service is provided, and
gives the client information regarding the adviser’s services and
organisation. A licence holder or representative providing a
financial service to a retail client must provide an FSG, pre-
pared by the licence holder.
A Product Disclosure Statement (PDS)24 must contain suffi-
cient information to enable a retail client to make an informed
decision about whether to purchase a financial product. Gener-
ally an adviser, as the regulated person, will provide a PDS in
situations where a retail client is advised about a product. The
product provider must give a PDS to a retail client when mak-
ing or receiving an offer by a client to take up the product25. An
Australian PDS is used in Australia for investment products
offered by licensed financial services.
The Australian product disclosure statement (“Australian
PDS”) accompanies offers for financial products other than
debentures and shares26. This includes bank deposits, life and
general insurance, superannuation, derivatives, unit trusts and
other managed investment schemes offered by regulated finan-
cial service providers. The content of the Australian PDS is
21Single Trans -Tasman Market, which allows an issuer t o offer secur ities or
interest in CIS in Australia and New Zealand using one disclosure document
prepared und er regulation in its home country.
22Corporation Act 2001 (Cth) s946C (1). See also, Corporation Amendment
Regulation 2005 (No.5) at 27-28.
23Corporation Act 2001 (Cth), s941A, 941B, 941(D).
24Ibid s 761A , See also Di v 2 Pt7.9.
25Australian Securities and Investment Commission Disclosure: Produc
t
D
isclosure Statements (and Other Disclosure Obligations) (Regulatory
Guide 168, 6 September 2010) at 6.
26Corporation Act 2011 (Cth), ss 762A - 765A, 1012A - 1012C.See also
Marcus Best “Securities Law in Australia” in Jeanluc Soulier and Marcus
Best (Eds.) International Securities Law Handbook (2nd ed.,Kluwer Law
International, The Netherlands, 2005) at 27. Investments in Australia are
classified as either securities or financial products other than securities.
Offers for investments in securities, that is shares and debentures, are ac-
companied by a full prospectus, as required by Chapter 6D of the Corpora-
tion Act 2011 (Cth). Offers for financial products other than securities are
regulated by Part 7.9 of the Corporation Act 2011 (Cth), which requires
issuers to prepare a product disclosure statement (Australian PDS).The
Australian PDS is more concise than a prospectus, being intended to provide
investors with sufficient information to help them make informed acquisi-
tions of financial products. See James McConvill.
A
n Introduction to
CLERP 9 (LexisNexis, Australia, 2 004) at 140.
19Financial Markets Conduct Bill 2011 (342-1) (explanatory note) at [3].
20The principle based approach provides a flexible regulatory framework
capable of adapting to structural and institutional changes in the financial
system.
50

E. LOU
regulated and includes information on product benefits and
risks associated with the product, rights and obligations at-
tached to the product, a dispute resolution system covering
complaints by holders of the product, and a description of
methods for system assessment. The PDS must also contain any
other information that might be expected to materially influence
a reasonable person making an investment decision27.
The Key Investor Information Document in the
European Union
The EU commission has replaced the simplified prospectus
of investment funds with a new form of disclosure called the
Key Investor Information Document (KIID) (Burn, 2010). In
2006, the European Commission extensively reviewed the
framework for retail investment funds, including introducing
the “UCITS” Directives for collective investment securities
(Directive 2009/65/EC, 2009) and criticised the simplified pro-
spectus introduced by the Management Company Directive
(2001/107/EC) in 2002, for its length, complexity and lack of
transparency. Most importantly, the Commission noted that the
simplified prospectus did not aid in comparing different funds
across member states. The Commission concluded that invest-
tors required a new document communicating key information
to support informed choices, enable consumers to compare
funds, and facilitate cross-border marketing and enhanced
competition between fund promoters (Burn, 2010). The new
EU regulations prescribe that the KIID should be a single
document of limited length written in concise and non-technical
language, and should be provided to prospective investors in
collective investment schemes pursuant to the Undertaking for
Collective Investment in Transferrable Securities “UCITS”
Directives (European Commission Internal Market and Services,
2007).
UCITS are open-ended investment vehicles in which invest-
ment units are repurchased or redeemed out of fund assets (art.
1). UCITS are designed to allow CIS to operate freely
throughout the EU based on the authorization of a single mem-
ber state. Unlike with a public limited company that coordinates
the distribution and management of unit trusts amongst coun-
tries within the European Union, investors in UCITS funds
generally purchase shares in the fund directly from the fund
itself rather than from existing shareholders (art. 5).
UCITS are defined as retail products and so must suitably
disclose their investment strategies to enable retail investors to
make informed decisions (Central Bank of Ireland, 2007). Un-
sophisticated investors may not fully understand the different
risk and return characteristics of these products, although some
complex strategies may be less risky than some traditional long
only structures (Central Bank of Ireland, 2007). Investors may
purchase directly from the provider, an agent tied to the pro-
vider, or an intermediary. In the UK, considerable diversity
exists within each of these channels. For example, a tied repre-
sentative will sometimes offer an advisory service to the cus-
tomer, but on other occasions will not. The dominant distribu-
tion channel for UCITS (either direct or packaged within
unit-linked life insurance contracts) remains Independent Fi-
nancial Advisers. FERI-Fund Market Information research
found that in the UK, almost three-quarters of retail investment
funds are distributed via advisers, with 16% distributed via
insurance wrappers and 9% via bank networks (Association of
British insurer, 2006).
Implications for Prescribing New Zealand’s Product
Disclosure Statement
In Australia provision of the Product Disclosure Statement is
limited to financial products offered by licensed financial ser-
vices28. The Corporation Act (Cth) imposes strict conduct and
disclosure obligations on licensed financial product dealers, in
addition to financial requirements and adequate risk manage-
ment systems29, providing protection for investors. For example,
when providing “personal advice” to retail investors making an
investment30, a product dealer must make reasonable inquires
regarding the relevant personal circumstances of the client and
give reasonable consideration to the subject matter of the ad-
vice31. Moreover, when providing investors “general advice”, a
product dealer must warn them that the advice was prepared
without considering their objectives or financial situations32.
The Australian Corporations Act defines a “financial prod-
uct” as “a facility through which, or through the acquisition of
which, a person makes a financial investment, manages finan-
cial risk or makes non cash payment”. The Act also specifies
situations in which giving financial product advice that consists
of, or includes, a recommendation to acquire a financial product
gives rise to an obligation to provide a product disclosure
statement (PDS) for that product. Similarly, where persons,
such as the issuer of a financial product or a licensed financial
service producer, offer to acquire a financial product on behalf
of a retail investor, they must provide a PDS for that product.
Use of the KIID is currently limited to investments in UCITS
funds (Burn, 2010), which are specially constituted for col-
lective investment portfolios and heavily regulated for investor
protection (Moloney, 2010)33. An independent authorised firm
known as a “depository” holds the scheme assets and is also
responsible for overseeing fund activities (Moloney, 2010). The
directors of the depository must be of sufficiently good repute,
and must have sufficient experience in relation to the UCITS
they are managing (art 5(4)) (Directive 2009/65/EC, 2009).
Disclosure is therefore more focused on the ability of the fund
to provide investment returns, as the depository and Member
State authorities monitor fund assets and management compe-
tence (Moloney, 2010).
The author argues that investors should benefit from several
layers of protection to ensure their funds are managed accord-
ing to the best internationally accepted fiduciary practices. Dis-
closure statements provided by licensed intermediaries should
take stock from the Australian PDS and KIID and inform in-
vestors of where their money is going. The New Zealand PDS
should also provide more information regarding the investment.
Arguably, New Zealand regulators should draw on overseas
models and either require disclosure of financial product infor-
mation in the required service disclosure statement (Chen &
Watson, 2011), or extend PDS requirements to advisers
providing DIMS.
28Corporation Act 2011 ( Cth) ss 101 2A - 1012C.
29ss 824B, 912, 945A, 945B, 946A and 949A.
30ss 766B.
31s 945A.
32s 945B.
33Malcony outlines three dimensions of the UCITS regime that protect
investors: structure and investment policy; authorisation and supervision o
f
the scheme manager and depository; and public marketing restrict ions.
27Corporation Act 2011 ( Cth), s 1013 E.

E. LOU
Recommendations
Disclosure Provisions for Discretionary Investment
Management Service
Regulators seeking drafting inspiration from the Australian
PDS and the KIID must remember that these documents are
only required for investments provided through licensed inter-
mediaries, including both CIS and licensed service providers,
while the Financial Markets Conduct Bill 2011 does not require
preparation of a PDS for investments through licensed interme-
diaries34. The only document that must accompany investments
through licensed intermediaries is a “disclosure statement re-
lating to the service”35. The risk here is that investors, the target
audience of the PDS, are not required to be given a PDS, and
may lack the knowledge to request one.
Licensed intermediaries providing a DIMS service are not
subject to the same PDS requirement as CIS and may under-
mine the protections provided for by the financial market con-
duct bill. There is risk that financial advisers providing DIMS
take money from individual investors and invest it on their
behalf, possessing more information than the potential investors
with whom they are dealing, will misstate future prospects
through excessive optimism or deceit. The author proposes that
the Ministry of Economic Development should wait and see
how well the new Financial Advisers Act 2008 works in prac-
tice before granting exemption powers to advisers providing
DIMS under the Bill. The author suggests that DIMS be subject
to requirements equivalent to those CIS, specifically, the provi-
sion of a PDS to ensure equivalent regulation of similar ser-
vices to improve competition, because the investment offer will
not be scrutinised by an authorised adviser with a statutory duty
to act in the best interest of the investor.
Presentation of Fees and Performance Disclosure
Investment management in New Zealand is expensive. Since
many fund managers in New Zealand are also issuers, they
have little incentive to minimize fees or highlight them to in-
vestors. Scale should allow cost reductions and advice fees
based on the time and complexity of individual client situations,
like in other professions based on individual contact between
advisors and clients. Investors in CIS can rarely distinguish
which expenses pay for which fund services. Investors require
the information required to understand the costs of their funds,
and to establish whether those costs are reasonable. While most
countries require disclosure of fund expenses in ratio format in
the prospectus (Morningstar Fund Research, 2011), so an in-
vestor can estimate the impact of expenses on fund perform-
ance, New Zealand only requires the presentation of actual
expenses through fund financial statements. Consequently, no
uniform standard exists in New Zealand for fee presentation
(Morningstar Fund Research, 2011), making it very difficult for
retail investors to assess the total cost of investing in a scheme
since they must calculate the ratio themselves.
The Financial Markets Conduct Bill appears to be a big step
forward in that it prescribes a standardised PDS for CIS to re-
place the investment statement and online entries on a public
register to replace the prospectus. The Bill requires that the
PDS be split into two parts and its contents heavily prescribed
(Office of the Minister of Commerce, 2011). The first part of
the PDS will summarise “key product information” and be
restricted to two page (Office of the Minister of Commerce,
2011). The second part of the PDS, the main body, will contain
more information considered “crucial to an investor’s decision”
(Office of the Minister of Commerce, 2011). The Financial
Market Authority further issued a guidance note regarding ef-
fective disclosure which stated that PDS does not require a “key
Information” section (Financial Market Authority, 2012)36.
Instead, the FMA “Effective Disclosure” document only pro-
vides suggestions that fund managers should consider in setting
factors such as fees charged to the fund, fees and expenses re-
lated to the fund, and their nature and effects on the investment
statement. This contrasts sharply with best practice in the USA,
where details of fees and performance must be set out in the
first few pages of the key disclosure document for a managed
fund. The author suggests that PDS disclosure for CIS be re-
quired to include a short (approximately two page) presentation
of key information such as the benefits and risks associated
with the investment and considered crucial by investors, and the
use of simple language and communication tools such as graphs
and numerical examples is preferred (Chen & Watson, 2011).
Information requiring disclosure is prescribed by law, and there
is no need to decide what information is key, nor any discretion
to include, or exclude, particular information.
Emphasising the Importance of Seeking
Financial Advice
Currently the investment statement in New Zealand encour-
ages prospective investors to “read all documents carefully”
and “seek advice” before committing themselves37. The effec-
tiveness of this statement has been questioned by a recent sur-
vey revealing the low numbers of New Zealanders who seek
financial advice (RaboDirect, 2011). New Zealand has 1.7 mil-
lion people participating in KiwiSaver and thus needing quality
advice. That is a huge market given that New Zealand currently
has just 2000 authorised financial advisers. Financial advice is
cyclically depressed but structurally a long term growth busi-
ness. The ANZ retirement commission’s 2009 financial know-
ledge survey (Retirement Commission, 2009) found that 51%
of respondents used banks as their main source of advice, while
35% relied on friends and relatives. Instead of simply recom-
mending that investors seek financial advice, the PDS should
state that investors can confidently rely on that advice.
The Financial Advisers Act 2008 requires advisers who pro-
vide comprehensive advice to meet professional and ethical
standards38. If the standards are breached investors can file
complaints with an independent disputes resolution scheme and
the FMA. If the situation cannot be resolved through the inde-
pendent dispute resolution scheme, the FMA can act on behalf
of investors, for example by seeking compensation for fraud or
negligence39. The author thus believes that this information
should be provided in the two-page summary of the PDS to
emphasise the benefits of using a financial adviser.
36See the key information section at the start of disclosure document for
details of material risk to investors.
37Securities Regulation 2009, sch 13(1).
38Financial Advisers Act 2008, s 37. See also Code Committee Code o
f
Pr
ofessional Conduct for Authorized Financial Advisers (for the purpose o
f
the Financial A dvisers Ac t 2008).
39Financial Markets Authority Act 2011,s 34(1), as a result of an investiga-
tion under the Financial Adviser s Act 2008, ss 9 6 and 97.
34Financial Market Conduct Bill (Consultation Draft) sch 1 cls 6 - 7.
35Ibid, cl 404.
52

E. LOU
Conclusion
Research house Morning Star rated New Zealand worst
among 16 countries for best practice in fund management. Poor
behaviour and incompetence from some financial intermediar-
ies leads to low trust in financial advisers, and investor con-
cerns that the regulatory regime may not protect them (Ministry
of Economics, 2009). The fundamental objective of prescribing
the PDS is to provide essential information for investment de-
cisions (Office of the Minister of Commerce, 2011). This paper
examined whether the proposed PDS disclosure should extend
to licensed intermediaries providing discretionary investment
services. The investigation focused on the disclosure needs of
retail investors and was supplemented by an examination of
how service intermediaries in Australia and the European Un-
ion adopted documents analogous to the PDS. This investiga-
tion yielded the following findings.
First, authorised advisers operating DIMS are in substance
providing an equivalent service to fund managers offering CIS.
Both services allow retail investors to delegate their day to day
investment decisions and portfolio management to investment
service experts. The author argues that pooling should not be
the basis for assessing the degree of investor protection.
Second, the service disclosure statement that is currently re-
quired to be prepared by licensed intermediary services may be
sufficient for advisers providing “investment planning services”
and “financial adviser services” by recommending financial
products to investors. The author believes that DIMS advisers,
who acquire and dispose financial products on behalf of the
investors warrant higher disclosure responsibilities, specifically
disclosures regarding offered financial products.
Third, Investors would benefit from standardized presenta-
tion of their portfolio data. If disclosure regimes set different
standards, and require the disclosure of different information,
differing disclosure of fees, charges and commissions often
make it impossible to compare future returns. Finally, the au-
thor found that it would be appropriate for New Zealand regu-
lators to obtain inspiration from overseas models.
The problem suffered by the financial industry has presented
regulators in New Zealand with an opportunity to implement
major regulatory changes. The author believes that the govern-
ment needs to ensure that efficiency, equity and confidence are
present in licensed service intermediary markets so that retail
investors have the best chance of achieving their objectives
without fear of inappropriate behaviour by advisers to whom
they have delegated authority. This applies particularly in rela-
tion to DIMS. Good regulation with appropriate disclosure of
PDS can provide retail investors with confidence in investing
through DIMS. In the current economy individuals require
access to information on the financial products in which their
money is invested.
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