Investors must beware of the “halo” effect: ESMA

Retail investors should be wary of investment firms selling unregulated products — such as cryptoassets, gold, and real estate — alongside regulated investments, the European Securities and Markets Authority (ESMA) is warning.

The European Union regulator issued an investor alert warning about the risks of investment firms selling both regulated and unregulated products and services side by side.

“ESMA is concerned that the practice of investment firms also offering products and services that are not regulated gives rise to both investor protection and prudential risks,” the alert said.

The investor protection risks include the threat of investors being misled or mis-sold products without fully understanding their features and risks.

“The investment firm’s reputation, or ‘halo effect’, may often serve to provide potentially misguided reassurance in relation to the unregulated products and/or services offered by that investment firm, although such products may present heightened risks relating to complexity, illiquidity or even fraud,” it said.

ESMA stressed that these risks can be particularly acute when the unregulated products effectively function as substitutes for conventional, regulated investment products.

“Some investment firms may encourage the confusion between regulated and unregulated products and services,” ESMA said.

These practices can, in turn, translate into reputational risk for investment firms, and “may pose a higher risk to the sound and prudent management of the investment firm as a whole and may jeopardize the investment firm’s compliance with its [regulatory] obligations,” it said.

The regulator also warned firms to ensure that they are providing investors with adequate disclosure about the unregulated status of these kinds of products, and the fact that they don’t carry the same sorts of investor protections as regulated investments.

James Langton

James is a senior reporter for Advisor.ca and its sister publication, Investment Executive. He has been reporting on regulation, securities law, industry news and more since 1994.