The Financial Conduct Authority last month made a comforting-sounding announcement.
It declared that investors in Neil Woodford’s Equity Income Fund, gated in 2019 after precipitous collapse in value and a rush of withdrawals, could receive 77p in the pound of their outstanding losses under a redress scheme negotiated by the regulator.
The FCA presented the deal as a way of drawing a line under one of the City’s biggest recent retail finance scandals, in which Woodford was accused of mismanaging his fund and making excessive bets on risky unlisted companies.
But the deal is nothing like as generous as it might look. The compensation amounts to only £235mn, a little over a fifth of the £1.05bn gap between the fund’s £3.61bn value when it was gated and the £2.56bn that has since been distributed to investors. That is 22.4p in the pound.
To reach its 77p figure, the FCA focused narrowly on the extra losses suffered by gated investors on illiquid investments compared with the position of those clients who exited immediately before the gating. The £235mn is 77 per cent of £298mn. There is no redress offered on the broader remaining £752mn capital loss suffered on selling liquid and illiquid assets after gating. There is also no interest or compensation for lost access to the money since 2019.
Moreover, the deal is restricted to 350,000 investors trapped when the fund was suspended; there’s nothing for unknown thousands of others (the figure has never been disclosed) who withdrew their cash, and crystallised losses before the fateful gating. According to Morningstar, the fund price slumped by 38 per cent from its June 2017 peak in the two years before gating.
There’s currently no provision for the harm caused by failures in relation to anything other than liquidity breaches on the unlisted investments. Other investments were listed, but some weren’t the established, dividend-paying companies consumers might expect to find in a large equity income fund.
The FCA claims it will address this criticism in its full findings in October. Its probe into other parties continues and the prospect of further redress from those firms may still be raised.
The FCA justifies its approach by distinguishing between losses “based on misconduct [and those] caused by fluctuations in the market value” of investments. It adds that redress “is not designed to cover losses in relation to investment strategies, if the risks for these are well disclosed” or “hypothetical” returns that could have been achieved elsewhere.
The proposed payment would come from Link Fund Solutions (LFS), the fund’s authorised corporate director, the company charged with protecting investors’ interests. It was responsible for appointing the fund manager — Woodford — and checking the fund complied with the stated equity-income investment remit and limits on illiquid holdings and on borrowings. The compensation deal is presented as voluntary, but has clearly been secured from LFS through FCA pressure, and comes with the regulator’s implied endorsement.
If the sum is ever paid — it is conditional on investor approval, and on the sale of LFS to an Irish rival, Waystone Group — LFS and its management will escape without a fine or a ban. Moreover, the FCA will probably overlook any LFS shortcomings in relation to anything other than unlisted holdings.
There will be no barrier to the firm, under Waystone ownership, continuing to manage client money. The FCA stresses that the transaction will be subject to its usual approvals processes but it is expected to give its go-ahead.
This is not the first time LFS has escaped an FCA crackdown by paying partial redress: it did so in two cases involving misconduct claims — Arch Cru in 2012 and Connaught in 2017.
Why is the FCA imperilling the savings of millions by allowing this serial offender to keep trading?
I believe the main reason is that a larger restitution order would have tipped LFS into insolvency, causing eligible claims (up to an £85,000 ceiling) to be met by the Financial Services Compensation Scheme (FSCS), the industry-funded protection fund. Had the FSCS accepted the argument that LFS breached its obligations by failing to stop Woodford’s “style drift” from safe equity-income stocks to riskier “moonshot” ones, clients would have received much more cash.
Perhaps the FCA acted as it did because many in the industry are already chafing at the FSCS levy, which funds such compensation and which companies call the “regulatory failure tax”. It rocketed 25.5 per cent last year to £900mn.
If the FCA fails to extract compensation from LFS for Woodford’s victims it could face calls to stump up cash itself from both aggrieved investment clients and from an industry sick of the FSCS levy’s costs. Conceding the principle in this case could cause the floodgates to open to many others.
Why don’t Woodford investors just sue the FCA? Simple: it has broad legal immunity from civil liability.
Many backbench politicians want this to change: Tory MP Bob Blackman MP and Labour peer Baron Prem Sikka recently unsuccessfully sought to amend the financial services and markets bill to allow retail investors to seek compensation for losses suffered due to FCA errors and inaction.
The government — and the Labour leadership — resist such reforms, I believe, because they’re keen to avoid acknowledging the scale of the problem and facing difficult conversations about whether taxpayers or the industry should cover the likely bill for historical cases.
Until our political leaders accept that the City is locked into a cycle of poor conduct, poor regulation and poor confidence, we cannot fix the underlying problems — and give consumers proper protection.
Mark Bishop is head of campaign strategy at Transparency Task Force, a group promoting transparency in financial services. He takes a special interest in the Woodford case