New rules for debt-based investments urgently required

The corporate regulator’s proposal to improve disclosure rules for debt-based investment vehicles will go some way to improving transparency and security for investors but will not, in themselves, prevent the next Fincorp or Westpoint-style catastrophe from occurring, according to the InstituteofActuariesof Australia (IAA).

At a media briefing yesterday, IAA highlighted what it considers “fundamental flaws” in the current business model, including a disconcerting lack of transparency and regulation. At present, issuers of debt-based investment products (such as debentures and unsecured notes) are not regulated under the Financial Services Reform Act as offering debt is not classified as a financial service.

IAA sent the Australian Securities and Investments Commission (ASIC) a letter on July 30 stating as much and outlining suggested improvements.

ASIC’s discussion paper detailing proposed improvements to disclosure practices in the $8 billion debenture market was released about a month later.

However, IAA believes issuers of debt-based investment vehicles should also be required to hold an Australian Financial Services licence and submit their products for independent assessment.

IAA cautioned that if things are allowed to continue as they are, property-related investment scheme collapses such as Fincorp and Westpoint could spread to other debt-based investment vehicles.

“There are a lot of other products on the market that are running around now that are leveraged products by their nature — warrants, CDOs, all the rest of it,” IAA senior vice-president Greg Martin said.

“We don’t see these debenture schemes as being the last cowboy in the west.”

IAA’s suggested improvements to the current business model also include requiring issuers of debentures to satisfy “fit and proper” character requirements, submit their products for an independent financial soundness assessment, label them more accurately and clearly and disclose potential conflicts of interest (such as a relationship with a property developer).

“Complex and detailed disclosure has not been effective at protecting consumers or explaining risks under direct to public offers,” Martin said.

“Which is why we [IAA] think a succinct and prominent risk warning aligned with the product label should be considered.”

IAA contended that actuaries’ expertise in financial risk management in other sectors of the financial services industry could be extended to debt-based investment vehicles.