To institutional and retail UK investors: to hell with low-return, safe fixed-income investments! Ride the equity and venture capital risk-curve today. We’ll get the government to shower you with tax breaks if you do. Oh, and by the way, retail investors: if you don’t, you’ll spend your retirement in penury. Let’s go risk-on in perpetuity.
To market regulators: don’t let other jurisdictions put one over on you. Regulatory gold plating is all well and good but not if other jurisdictions drag business away from you through less stringent rules. Maintain constant scrutiny of what your competitors are doing. Do it to them before they do it to you.
No. It’s not me saying that. That’s my quick and dirty summary of the UK Capital Markets Industry Taskforce’s (CMIT) report, Building World-Class Capital Markets of Tomorrow, published on September 6 to coincide with the launch of London Stock Exchange’s Main Market, one outcome of the UK’s new listing rules that recently took effect.
I don’t think I’ve strayed from the core of the report’s key messages. It lays out four priorities with a bunch of recommendations that the UK could build on:
1. Making Britain a clean energy superpower and the green finance capital of the world;
2. Encouraging home bias by large UK investment institutions (by creating a bunch of tax incentives);
3. Increasing UK retail ownership of UK shares (ditto); and
4. Creating a “risk on” market with an insurgent and entrepreneurial mindset.
There’s a heavy focus on light-touch regulation and risk as a good and almost patriotic thing to embrace rather than something to be managed carefully and sparingly. I find it all rather extraordinary but it follows a trend of recent think-tank and other reports that are all desperately keen to draw us all into the ambit of high returns and the benefits of economic growth without worrying too much about the risk that gives rise to those returns in the first place. I think it’s dangerous, but the CMIT gives us these gems:
“We cannot expect to achieve meaningful growth while we micromanage business through regulators, second-guessing decisions that rightly belong to company boards and not trusting investors to be able to make their own investment decisions without feeling the need to look over their shoulders.”
“We should not focus on measuring risk levels per se. Measuring risk should be seen as secondary to measuring the output of our risk-taking.”
“Every part of the capital markets ecosystem needs to understand and live the risk-reward dynamic.”
I particularly marvelled at: “Several failed companies and bad investments (even where investors lose money) are more palatable in a market where many highly successful companies and lucrative investment opportunities are being created.” Fine and dandy as long as you’re not one of those that lose money!
Wide berth
So, what’s giving rise to this “risk is good” phenomenon? Well, it’s the fact that only 4% of UK pension fund assets are apparently allocated to listed UK equities and 2% to unlisted equities (according to New Financial). That the number of UK households that directly own UK shares, as per the CMIT, has more than halved in 20 years to 11%, while the UK represents just 4% of the MSCI largely because it’s missed out on the tech boom.
This lack of domestic investor engagement has led to a potent brew of irritation, disappointment and borderline panic in UK government circles, fanned by a barrage of reports from consultants, think tanks and others playing up what they gravely warn will be deleterious consequences for the British economy if its capital markets – still the largest in Europe – are not rendered more accessible and attractive.
The problem the UK faces is one of competition and it’s feeling the effects. UK companies opt as often as not to list their shares on non-UK exchanges because of the lure of better valuations and better investor patronage. Companies based in developing economies no longer use London as a default listing centre because they either have their own competitive capital markets or also use the US to source capital. International venture capital (mainly from the US) has filled the gap left by the exit of homegrown growth capital so the benefits as those companies grow accrue to non-UK investors. And Brexit was a massive own goal because it strengthened EU financial centres.
So, what’s needed? Well, CMIT says a total of £1 trillion (US$1.3 trillion) in productive new capital needs to be delivered into the UK economy over the next 10 years to support 3% annual growth in real wages and real per capita GDP and fill the UK’s under-investment gap relative to G7 peers. That’s a hell of a lot of money. That extra capital will fund:
- The UK government’s (some would say pie-in-the-sky) pledge to build 300,000 new homes per year (£20-30 billion);
- Annual government targets of 5-7 gigawatts of new offshore wind and 3GW of new solar (£20 billion);
- Scale-up capital for tech and life sciences (£15 billion);
- Electric vehicle rollout (£15 billion);
- New water infrastructure (£8 billion);
- Decarbonizing buildings (£3-8 billion); and
- Transport, education and healthcare (£1 billion).
At the same time, we’re told institutional investors should allocate much less to fixed income and a lot more to equities (listed and unlisted); that retail investors should ditch cash instruments and move up the risk curve into equities; that large UK growth companies and previously UK-listed companies owned by private equity should IPO or re-IPO in the UK; and that the government should reduce the crowding-out effect vis-à-vis private capital created by large public infrastructure projects.
All this has a “best-of-all-possible-worlds” or “and then I woke up” ring to it that you almost know will be dashed by harsh reality. But reports like this are part of a self-reinforcing perpetual-motion cycle of government/government-sponsored/taskforce/think-tank reports that basically say the same thing and end up quoting each other. I’m not at all convinced anything will change quickly or at all. But let’s see.
LSE launches Main Market
September 6 didn’t just see publication of the CMIT report. The date was synchronized with the launch of the London Stock Exchange’s Main Market, part of what the exchange referred to as “the most significant reforms to the UK's listing rules in a generation” and a “hugely significant milestone in the capital markets reform agenda that the UK is currently embarked upon”.
That’s pretty hyped-up language. The stock exchange and the Financial Conduct Authority (FCA), the regulator that marshalled in the new rules, both hope they’re a step forward in the fight as they see it against the degradation of UK capital markets. (Degraded for the same reasons the CMIT says: UK investors have given a wide berth to UK equities and too many UK companies choose non-UK listing venues.)
New listing rules, in effect since July 29th, are simpler and more flexible but investor disclosure will remain adequate and appropriate. The FCA had unveiled its new listing rules in a blockbuster 556-page report that landed with a metaphorical thud in mid-July. Read it here: Primary Markets Effectiveness Review: Feedback to CP23/31 and final UK Listing Rules.
I can’t profess to have read it all but the FCA says the new rules aim to support a wider range of companies to issue their shares on a UK exchange, increasing opportunities for investors; remove frictions to growth once companies are listed, and place continued emphasis on adequate investor disclosure. The LSE Main Market replaced the previous standard and premium listing segments.
The need for change was predicated, wrote Nikhil Rathi, the FCA’s chief executive officer, and Sarah Pritchard, executive director of Markets and International, in the foreword to the report, because of the risk that the UK regime “falls increasingly out of step with those of other jurisdictions, making it less likely that companies eager to grow choose the UK as a place to list their shares”. The status quo, they said, is not an option.
