Suitability Test under MiFID II
The assessment of suitability is one of the key requirements for investor protection in the MiFID II framework. It applies to the provision of investment advice (whether independent or not) and portfolio management. In accordance with the obligations set out in Article 25(2) of Directive 2014/65/2014 on Markets in Financial Instruments (MiFID II) and Articles 54 and 55 of the Commission Delegated Regulation (EU) 2017/565 (MiFID II Delegated Regulation), investment firms providing investment advice or portfolio management have to provide suitable personal recommendations to their clients or have to make suitable investment decisions on behalf of their clients.
An investment firm must, when providing investment and ancillary services to clients, act honestly, fairly and professionally in accordance with the best interest of its clients and comply, inter alia, to obtain the relevant information regarding the client’s or potential client’s knowledge and experience in the investment field so as to enable the Company to assess whether the investment service or product envisaged is appropriate for the client.
In addition to the aforementioned, and if applicable, such firms must request information regarding client’s financial situation and investment objectives so as to be able to recommend the investment services and financial instruments that are suitable to its situation.
As per the aforementioned requirements, the firms must collect information from its clients or potential clients for the performance and the actions in accordance with the outcome of the assessment of suitability.
Nevertheless, a firm should take reasonable steps to check the reliability of information collected about Clients. The firm always remains responsible for ensuring it has adequate information to conduct a suitability assessment. In particular, it should consider whether there are any obvious inaccuracies in the information provided by its Clients. When contradictions between various answers provided by Clients are identified, then the respective Client should be contacted for clarifications in order to resolve any material potential inconsistencies or inaccuracies. In the event where Clients are not able to understand the questions that have been set through the Account Opening Procedure, the Company will need to ensure that that the respective method used to collect information will be amended in way to get the information required for a suitability assessment, if deemed necessary. If no sufficient information is collected, the Company will not be in position to recommend the relevant investments services to its clients and/or potential clients.
Key Principles of the Suitability Test
The importance of the suitability assessment for the protection of investors was already clear under MiFID I and has been confirmed in MiFID II. While the objectives of the suitability assessment, as well as the key principles underpinning the regulatory requirements, have remained unchanged, the obligations have been further strengthened and detailed by including the following main requirements:
- reference to the fact that the use of electronic systems in making personal recommendations or decisions to trade shall not reduce the responsibility of firms;
- the requirement for firms to provide clients with a statement on suitability (the so called ‘suitability report’) prior to the conclusion of the recommended transaction;
- further details on conduct rules for firms providing a periodic assessment of the suitability;
- the requirement for firms performing a suitability assessment to assess, taking into account the costs and complexity, whether equivalent products can meet the client’s profile;
- the requirement for firms to analyse the costs and benefits of switching from an investment to another;
- the strengthened requirement for firms to consider the clients’ risk tolerance and ability to bear losses;
- the extension of suitability requirements to structured deposits.
The investment firms should ensure that the information regarding a Client’s or potential Client’s knowledge and experience in the investment field includes the following, to the extent appropriate to the nature of the Client, the nature and extent of the service to be provided and the anticipated type of product or transaction, including their complexity and the risks involved:
- The types of service, transaction and financial instrument with which the Client is familiar with;
- The nature, volume, and frequency of the Client’s transactions in financial instruments and the period over which they have been carried out;
- The level of relevant education, profession or former profession of the Client or potential Client.
Unless it is aware or ought to be aware that the information is manifestly out of date, inaccurate or incomplete, the firm shall be entitled to rely on the information provided by its Clients.
How to actually create a Suitability Test
The most common implementation of the Suitability Test among the online trading investment firms is through the online registration questionnaire. With automated scoring system for each question and answer. This way, the firm collects sufficient information from clients or potential clients and analyses automatically and effortless the level of the client’s knowledge and experience as well as risk appetite.
For a better understanding of what questions the Suitability Test contains and how it’s scoring system works, you can download a specimen template designed for online implementation with a forex company or a firm that offers CFS on OTC.