Why are these products being allowed to be offered at a
retail level to the person in the street?...the risk involved in agricultural
investment is simply outside the grasp of your average person in the street.
In Australia, the conduct and disclosure regulatory regime for financial
products does not rely on merit regulation, but focuses on 'the transparency of
the sales process (through disclosure) and the conduct of the intermediaries
involved in the sale'.
Based on a strong tradition, this approach means that regulations governing
disclosure and conduct are generally not concerned with the substantive 'safety'
or quality of a financial product and its associated services. According to
ASIC, this reliance on transparency in disclosure documents was premised on the
general acceptance that 'consumers must take on some level of risk for
Evidence before the committee raised a number of matters that question
the overall effectiveness of this regulatory regime in protecting the interests
of retail investors. In respect of MIS, they included: the adequacy of
disclosure so that the investors were able to comprehend fully the risks of
investing and, notwithstanding robust disclosure requirement, whether such complex
products should have been marketed to retail investors in the first place.
Also, the arrangements for borrowing to invest were an important part of
the overall investment package and consideration must be given to the
appropriateness of these lending arrangements for retail investors. In this
chapter, the committee considers the marketing of these complex and high risk
products to retail investors and the financing arrangements that allowed
growers to borrow to invest.
Promoting and selling complex financial products
The committee accepts that investment carries risk: that from time to
time some investments will not produce the expected returns or simply fail. But
some investments by their very nature are high risk.
In its June 2014 report on the performance of ASIC, the committee
discussed some of the implications of the low levels of financial literacy in
Australia. It noted that when this is combined with Australia's current
disclosure-based regulatory approach, retail investors and consumers may be
further disadvantaged when deciding on a financial product. In this context,
the Consumer Action Law Centre cited a number of further complicating factors
that pose a risk to the consumer. These included:
extremely complex credit and financial products that non-experts would
frequently misunderstand (including even the most important elements);
people not necessarily choosing between products 'rationally',
instead making quick decisions using mental shortcuts when dealing with
unfamiliar topics or when limited by time; and
people typically having trouble calculating costs and risks,
especially when the cost or risk is temporally remote.
These additional risk factors were present in abundance with regard to agribusiness
MIS. The FPA described these schemes as 'particularly complex' products...'at the
higher end of the risk spectrum' and 'with a 'particularly complex financing
arrangement'. It noted:
Many of our members have related to us that forestry and
agribusiness MIS are so difficult to understand and justify as an investment
option over alternative products that their licensees do not include them on
their approved product lists and financial planners avoid them. Professional
indemnity insurers likewise have begun to exclude such products from their
policies, as a response to the perceived risk and opacity of the investment
case for MIS recommendations.
The ANZ also described a MIS RE, in this case Timbercorp, as a company
that was complex with products at the higher risk end.
The bank did not have Timbercorp on its approved product list because it did
not fit the profile of its client base. Mr Graham Hodges, Deputy CEO of ANZ,
Our adviser product teams deemed that it was not a product
that our clients would be interested in, because it was known at the time to be
a more tax driven, high-risk product.
Yet these financial products were marketed and sold to a number of unwary
investors who had not been properly informed of, or understood, the complexity,
or inherent high risk of their investment or loan. As noted previously, these
were retail investors relying heavily on the advice of their advisers and who,
on their own admission, had limited capacity to understand or appreciate the
risks posed by the investment. This situation raises the question whether such
complex products should have been promoted and sold to retail investors.
Suitability for retail investors
Years before the MIS failures, concerns were expressed about the schemes
being marketed to retail investors. In 2001, ASIC expressed frustration at the
high proportion of remedial action and surveillance activity expended on the
agribusiness managed investments sector. It posed the question whether these
schemes should be regulated in some other way. At that time, Mr Ian Johnston,
We note that, in some jurisdictions, public offering of these
types of investments is not permitted. While not at this stage advocating such
a position in Australia, we do note that as a regulator we conduct a policy, disclosure
and conduct regime which achieves particular results in the case of much of the
regulated managed investments population but which does not achieve those
results with this sector.
ASIC's oversight of financial
ASIC, however, does not have legislative responsibilities for regulating
financial products, only for the oversight of product providers. This
responsibility focuses on 'matters of corporate governance and disclosure, and
in the main not on the design and other issues related to the products they
sell to consumers'.
During its 2014 inquiry, the committee took evidence from a range of
witnesses who advocated strongly for product regulation to address problems
with complex products. In this regard, the consumer advocacy associations
argued before the committee that unsafe products should be identified and a
system introduced to restrict access to particular types of challenging
For example, the Consumer Action Law Centre favoured an approach that would
empower ASIC to regulate financial and credit products, which, in its view, would
give the regulator more power to respond quickly to emerging problems before
widespread consumer harm occurred.
At that time, Professor Dimity Kingsford Smith cited the Westpoint and
Storm collapses and the associated investor losses from transactions that were
relatively complex when analysed in full. The agribusiness MIS would also fit
this category. In her view, 'in some other countries such products would have
been limited to sophisticated investors but in Australia they could be offered
She explained further:
The risk levels, the complexity, the consequent opacity of
the advice and the fact that investors did not really understand the
significance of the recommendations for their longer term financial welfare,
all diminished the capacity of investors to make good investment decisions with
properly informed consent.
The Consumer Action Law Centre and Professor Kingsford Smith referred to
the UK Financial Conduct Authority (FCA) model which allows the FCA to suspend
or ban potentially harmful products.
Professor Kingsford Smith noted:
In Britain the 'Treating Clients Fairly' program of the
Financial Conduct Authority allows the regulator to intervene in the design of
the product, not just place a stop order on disclosure. We think there is also
room for ASIC to exercise powers to prohibit the issue of certain products in
retail markets, if it is thought they are too complex, risky or leveraged to be
With the same idea in mind, the Law Council of Australia suggested that:
...'merits' regulation of financial products for
unsophisticated investors may need to be considered in Australia. That is,
unsophisticated investors might need to have a limited range of investment
choices that are limited to investments that are appropriate to their needs and
circumstances or that have been approved by a regulator such as ASIC.
The Rule of Law Institute of Australia contended that it was 'insufficient
for government regulators to tell consumers and investors to be careful and
self-educate themselves in the complex area of financial services, particularly
when the ASIC Act itself was nearly 400 pages in length'.
The FPA recommended that the laws be amended 'to oblige ASIC to take a larger
role in the regulatory oversight of financial products before they are released
for consumer investment'.
For example, it argued:
Legislation must enable ASIC to effectively and proactively
regulate product providers and the products they develop and sell to consumers.
Product providers should be held accountable for failing to deliver on product
benefits due to dishonest conduct, fraud or insolvency, or if there are
fundamental flaws in products.
ASIC can issue a stop order on a prospectus, where it determined that
the document was deficient.
Even so, it has acknowledged the inherent limitations in a regulatory approach
that relies solely on disclosure to address some of the problems investors face
in financial markets. ASIC told the committee in 2014, that it understood that
the effectiveness of disclosure can be undermined because:
people may not read or understand mandated disclosure documents,
due to factors such as inherent behavioural biases or a lack of financial
literacy skills, motivation and time; and
the complexity of many financial products may mean that
disclosure for such products can also be lengthy and complex, or excessively
simplified and generalised.
ASIC also referred to the FCA's work in 'product intervention'. It noted
that the FCA would 'periodically review particular financial services market
sectors and examine how products are being developed, and the governance
standards that firms have in place to ensure fairness to investors in the
development and distribution of products'. To assist this process, the FCA had
a spectrum of temporary 'product intervention' powers which may include rules:
requiring providers to issue consumer or industry warnings;
requiring that certain products are only sold by advisers with
additional competence requirements;
preventing non-advised sales or marketing of a product to some
types of consumer;
requiring providers to amend promotional materials;
requiring providers to design appropriate charging structures;
banning or mandating particular product features; and
in rare cases, banning sales of the product altogether.
In ASIC's view, having a broader and more flexible regulatory toolkit
would 'enhance its ability to foster effective competition and promote investor
and consumer protection'. In its view, regulating product suitability was 'one
type of approach that has been adopted internationally'. ASIC concluded:
As the FCA's regulatory approach is relatively new, at this
stage, it is difficult to draw any settled conclusions about the positive or
negative aspects of such an approach. However, the Government may wish to
consider whether such a broader regulatory toolkit would be appropriate in the
Australian financial regulatory system.
During its 2014 inquiry, the committee also drew attention to Mr Richard St. John's
report on compensation arrangements for consumers of financial services and his
reference to the international regulatory community's new focus on the adequacy
of conduct and disclosure regimes. In his view, it would be timely 'to consider
measures by which product issuers could assume more responsibility for the
protection of consumers who look to invest in their products'.
He noted the consideration being given 'to the possibility of a more
interventionist approach with product issuers'. In his words, the aim would be
'to catch problems early on in a financial product's life cycle as a means of
preventing widespread detriment to consumers'.
Referring directly to agribusiness MIS, Mr St. John suggested that:
As a matter of strategic approach, it would be timely to
review the present light-handed regulation of certain product issuers, in
particular managed investment schemes, including the possible need, in accord
with developments at the international level, to move to a somewhat more
As a first step, he suggested that consideration could be given to
imposing on licensees who make products available for retail clients more
responsibility for the suitability of those products for such investors,
together with related disclosure obligations.
Having deliberated on the evidence before it, the committee, in its June
2014 report, expressed concern that Australia was out of step with
international efforts to implement measures that would address problems
associated with the marketing of unsafe financial products to retail investors.
At that time, the committee recommended that the government give urgent
consideration to expanding ASIC's regulatory toolkit so that the regulator
would be able to intervene in the marketing of unsafe or inappropriate products
to retail investors. As a preliminary phase in this staged process, the
committee noted that the FSI may have a role and recommended that it consider carefully
the adequacy of Australia's conduct and disclosure approach to the regulation
of financial product issuers as a means of protecting consumers. In particular,
the committee recommended that the FSI consider the implementation of measures
designed to protect unsophisticated investors from unsafe products, including
matters such as:
subjecting the product issuer to more positive obligations in
regard to the suitability of their product;
requiring the product issuer to state the particular classes of
consumer for whom the product is suitable and the potential risks of investing
in the product;
standardised product labelling;
restricting the range of investment choices to unsophisticated
allowing ASIC to intervene and prohibit the issue of certain
products in retail markets.
The committee also recommended that the FSI assess the merits of the
United Kingdom's Financial Conduct Authority model which allows the authority
to suspend or ban potentially harmful products.
The FSI did indeed look into this matter. In its final report, the FSI
cited cases where ASIC lacked 'a broad toolkit to respond effectively, and in a
timely way, to an emerging risk of significant consumer detriment and cited, in
particular, instances where leveraged investment strategies exacerbated the
loss for many consumers. Notably, the FSI referred to agribusiness MIS where
the product 'did not perform in the way that consumers were led to believe,
including schemes relying on ongoing sales to fund their operations.' It
Many consumers did not understand the potential risk of
borrowing to invest in these products. In total, more than 65,000 consumers
invested and lost close to $3 billion.
In the FSI's view, targeted early intervention would be more effective
in reducing harm to consumers rather than waiting until detriment occurred. It
argued that the regulator should be able to be proactive in its supervision and
enforcement. In its assessment, significant consumer harm could be reduced 'if
ASIC had the power to stop a product from being sold or, where the product had
already been sold, to prevent the problem from affecting a larger group of
The FSI recommended that the government should amend the law to provide ASIC
with a product intervention power. It stated:
ASIC should be equipped to take a more proactive approach to
reducing the risk of significant detriment to consumers with a new power to
allow for more timely and targeted intervention. This power should be used as a
last resort or pre-emptive measure where there is risk of significant detriment
to a class of consumers. This power would enable intervention without a
demonstrated or suspected breach of the law. Given the potential significant
commercial impact of this power, the regulator should be held to a high level
of accountability for its use.
The FSI explained further that this power would allow the regulator to
intervene to require or impose:
amendments to marketing and disclosure materials;
warnings to consumers, and labelling or terminology changes;
distribution restrictions; and
The power would be limited to temporary intervention for 12 months, with
the option for government to grant an extension, and a provision for the
intervention to be subject to a judicial review mechanism.
Strengthen product issuer and
Turning to the product manufacturer, the FSI stated that product
regulation and product issuer regulation needed to be considered more carefully
in order that those entities bear the appropriate responsibility for a fair,
safe, and efficient financial services system.
The report recommended that a principles-based product design and distribution
obligation be implemented for product issuers, explaining further:
During product design, product issuers should identify
target and non-target markets, taking into account the product's intended
risk/return profile and other characteristics. Where the nature of the product
warrants it, issuers should stress-test the product to assess how consumers may
be affected in different circumstances. They should also consumer-test products
to make key features clear and easy to understand.
During the product distribution process, issuers
should agree with distributors on how a product should be distributed to
consumers. Where applicable, distributors should have controls in place to act
in accordance with the issuer's expectations for distribution to target
After the sale of a product, the issuer and
distributor should periodically review whether the product still meets the
needs of the target market and whether its risk profile is consistent with its
distribution. The results of this review should inform future product design
and distribution processes. This kind of review would not be required for
According to the FSI, a serious breach of this obligation should be
subject to 'a significant penalty'.
The FSI formed the view that 'better aligning the interests of financial firms
with consumer interests, combined with stronger and better resourced regulators
with access to higher penalties, should lead to better consumer outcomes'.
Consistent with its evidence to the committee's 2014 inquiry, ASIC
informed the committee that it supported a shift to 'a regulatory philosophy
that acknowledges that different tools will be needed to address different
problems'. It suggested that this regime would focus on the development of a
detailed understanding of specific market problems as they arise—often referred
to as 'a product intervention approach'.
Product and product issuer regulation
Evidence taken as part of the committee's inquiry into MIS builds on the
strong case supporting the committee's initial 2014 recommendations and those
of the FSI for ASIC to have a financial product intervention power and for
product issuers to be subject to greater obligations relating to consumer
For example, as noted earlier, many members of the FPA did not include agribusiness
MIS on their approved product list. The FPA, which held the view that forestry
and agribusiness projects, as well as the underlying MIS structure, were very
complex, asked whether retail investors could reasonably be expected to
understand these structures.
In its assessment, part of this bias towards regulating the distribution end of
a financial product was due to Australia's disclosure-oriented regulatory focus
which 'explicitly excludes financial product quality and research quality from
According to FPA, consumer protection would be significantly strengthened if
ASIC were to have the power to 'step in early, in a proactive sense where it
can see things are not in the consumers' best interest' and to take action
against the managers of the scheme.
The FPA recommended that Treasury review the Corporations Act and/or the ASIC
Act to consider how product intervention powers for ASIC could be implemented.
AgriWealth, which operates a traditional forestry business and a MIS forestry
business, also noted that there could be a restriction on MIS products being
offered to wholesale investors only.
Mr David Cornish, who has been involved in assessing rural investments
for the past 25 years, also questioned why these products were 'allowed to be
offered at a retail level to the person in the street?' 
He concurred with the view that investments in products that are not
traditional 'securities' as the underlying investment should not be marketed
directly to retail investors. Mr Cornish maintained:
Agricultural investment for the general public should only be
available through the wholesale or professional market. This would provide the
individual investor the protection of a wholesale institution that will do the correct
due-diligence on their behalf and the ability to spread risk across a number of
According to Mr Cornish, because the complexity and the risk involved in
agricultural investment was 'simply outside the grasp of your average person in
the street', the UK had 'wisely decided their marketing should be limited'.
Consistent with this approach, Mr Cornish recommended that legislation be
introduced in Australia disallowing investments, other than those retail
investments that can be considered traditional 'securities', being marketed
directly to the retail investor.
Mr Mervin Reed, a Chartered Financial Adviser with 25 years' experience
in the industry, argued that basically ASIC produced the product failures—it was
a regulator that 'allowed the product onto the market and it is the regulator
of the market product'.
Presently the regulator does not essentially review the
product, merely that the product provider or the new product has to meet basic
requirements of the prospectus, and as long as it fits then it's an administrative
function, the regulator gives it its authorisation code, and a way it goes into
There is no detailed understanding by the regulator of what
the product is, whether it will deliver what its prospectus says it will; how
well it will deliver this; who will deliver this outcome for investors; and
what is their background experience and capacity to make such statements in the
Mr Reed suggested:
...the regulator should engage a panel of external auditors,
develop a new product approval matrix, that deals with the basis of the product,
the legal structures involved, the bankers involved, the management team
involved, their experience over time, the administrative arrangements, and the
fund management specialisation and internal skill bases, that will allow the product
provider to actually deliver on the prospectus.
In Mr Reed's view, once the product had been allowed onto the market, another
audit should be conducted 18 months after the product's initial release to the
market, which would be provided to ASIC 'in order for the product to continue
to be on the market'.
Mr Reed reasoned that this process would remove the requirement for ASIC to
have in-house specialisation and that expertise existed 'in abundance in the
major auditing firms'.
There are numerous examples that all would have been cut off
at the knees and been stillborn, and thus not a problem if this process of ASIC
employing external auditors and new matrix structures on which to assess
managed investment product prior to product meeting the market.
Most recently, Mr Greg Medcraft, Chairman ASIC, indicated that the push
for greater product intervention had not subsided and highlighted the
importance of implementing stronger regulations to govern product designers. He
spoke of regulators throughout the world considering 'a broader toolkit to
address market problems, including moving away from purely disclosure-based
regulation'. Mr Medcraft referred to the International Organization of
Securities Commissions (IOSCO), which has recommended that regulators look
across the financial product value chain, rather than simply disclosure at the
point of sale. He explained:
A product intervention power would give ASIC a greater
capacity to apply regulatory interventions in a timely and responsive way. It
would allow ASIC to intervene in a range of ways where there is a risk of
significant consumer detriment.
According to Mr Medcraft, if ASIC had product intervention power it
would be able to undertake a range of actions, including simple 'nudges', right
through to product bans, though noting:
Most interventions would likely fall well short of product
banning. For example, we might be able to require amendments to marketing
materials, or additional warnings. In more extreme cases, we might be able to
require a change in the way a product is distributed or, in rare cases, ban a
particular product feature.
Mr Medcraft also responded to the FSI's recommendation for placing a
broad-based obligation on financial institutions to have regard to the needs of
their customers in designing and targeting their products. In his view:
...the FSI's recommendation aligns very closely with the theme
of culture. Product manufacturers should design and distribute products with
the best interests of the investor or financial consumer in mind. This is part
of having a customer-focused culture.
On the call for increasing the penalties for contravening ASIC
legislation, Mr Medcraft observed, as did the FSI, that:
Comparatively, the maximum civil penalties available to us in
Australia are lower than those available to other regulators internationally.
And they are fixed amounts, not multiples of the financial benefit obtained
The government agreed with the FSI's recommendation to provide ASIC with
a financial product intervention power to enable it to modify, or if necessary,
ban harmful financial products where there is a risk of significant consumer
detriment. The government plans to consult with stakeholders to ensure that the
power strikes the right balance—providing ASIC with a tool to enable it to take
action in exceptional circumstances but without stifling industry innovation.
Similarly, the government agreed with FSI's recommendation to introduce
a 'targeted and principles-based product design and distribution obligation'.
Again the government undertook to consult with stakeholders on the
implementation of this recommendation.
The government also supported the FSI's call for industry-led initiatives to
improve disclosure of risk and fees.
There can be no doubt that much stronger measures are needed to protect
retail investors from the promotion and marketing of high risk products. A
number of inquiries, including the committee's 2014 inquiry into the
performance of ASIC and the FSI have mounted a compelling argument for such
action. Agribusiness MIS is a clear example of where, based on the evidence
before the committee, disclosure was inadequate; information was confusing
rather than instructive for retail investors; and oral advice either
misinterpreted the disclosure documents, downplayed risks, or selectively
presented positive messages. Clearly, improved regulation could have prevented
many unwary investors from entering into unsafe financial arrangements.
The committee is of the view that Australia's financial services
regulatory regime has not served Australian investors well and can no longer be
relied as a means of consumer protection. While improved disclosure and
education are necessary, they must be accompanied by other measures. Attention
must also be given to product issuers and their obligation to act in the best
interests of investors.
The committee welcomes the government's endorsement of the FSI's
recommendation to confer on ASIC a product intervention power and an obligation
on product issuers to ensure that the products they are marketing to retail
investors are appropriate. The committee is firmly of the view that penalties commensurate
with the offence are needed to send a strong message to product issuers to act
responsibly when marketing products to retail investors. In light of the FSI
and ASIC's observation regarding the importance of having higher penalties, the
committee calls on the government to consider increased penalties for serious
To augment ASIC's product intervention power, the committee recommends
that the government review the penalties for breaches of advisers and AFS
Licensees' obligations and, under the proposed legislation governing product
issuers, ensure that the penalties align with the seriousness of the breach and
serve as an effective deterrent.
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