Index providers are staring down the barrel of further regulation after the Securities and Exchange Commission (SEC) announced last week it is considering reclassifying them as “investment advisers” instead of “information providers”.
The move would mean index providers such as MSCI, S&P Dow Jones Indices and FTSE Russell would be treated the same way as fund managers under the Investment Advisers Act 1940.
Explaining the reason for seeking industry feedback, Gary Gensler, chair of the SEC, said: “In recent decades, the use of information providers has grown, changing the asset management industry.
“The role of these information providers today raises important questions under the securities laws as to when they are providing investment advice rather than merely information.”
The SEC’s potential reclassification would have profound implications for index providers which will now have a fiduciary responsibility to the clients and investors adopting their products.
This is a significant shift for an industry quietly seen its authority – and revenues – dramatically increase alongside the rise of passives over the past decade.
Innovation has been a key driver of this growth and in particular, the past few years have seen the transition from traditional broad-based benchmarks such as the S&P 500 or MSCI World to more specific indices that cover areas such as thematics or ESG.
The latter are usually created in partnership with a client – typically an ETF issuer – instead of being created to track a broad market.
This change has evidently caught the attention of the SEC which is concerned the number of custom indices – that are more likely to run into problems versus broad market-cap weighted strategies – is increasingly rapidly.
The US regulator, therefore, feels now is the right time to start taking a closer look at an industry that aid in trillions of dollars of investment decisions globally and have so far remained unregulated.
However, it is clear index providers will be fighting their corner. As Morningstar said in a statement: “Indices are tools for investors to analyse, measure and gain exposure to markets. Index providers develop indices to help investors pursue a wide range of investment objectives and develop strategies for themselves and on behalf of their clients, but the end investment decision is always in the hands of the client.
“Index providers do not deliver investment advice but we do take index design and maintenance very seriously and follow strict rules of transparency and index governance.”
If the SEC is to impose any regulation on index providers, it must align with the European Union’s existing Benchmark Regulation (BMR), especially considering the majority of large providers operate in both the US and Europe.
This means the watchdog should look to cover all indices that fall under its jurisdiction instead of only some categories and ensure index providers recognise their importance in the functioning of financial markets, however, do not think they will go down without a fight.