Advisers charging investment clients an annual percentage fee are exposing themselves to the risk of breaching the FCA’s capital adequacy requirements if markets crashed, Steve Hagues has warned.
The founder of Retiring IFA said if a market downturn, such as that in 2008, forced an adviser to use their capital adequacy cash, it “would be a problem”.
He said: “Advisers must be aware of that risk and spot it at the right time as it will be a problem if they have to dip into [their capital adequacy cash] to maintain the business.
“It does expose percentage charging as having inherent risks, which directly correlate to the performance of the stock market.”
Mr Hagues said this could prompt the regulator to force IFAs to charge a fixed fee to insulate firms from stock market risk and because setting a floor would be difficult to do.
He added: “Even if advisers mitigate stock market risk by setting a fee floor, the difficulty is where you set the floor. Does it cost a lot more to advise someone with £1m compared with £100,000? This raises the possibility of having a fixed fee for advice, rather than a percentage of the investment pot, which could destroy value for much of the advisory sector.”
Mr Hagues’ comments came as Ned Cazalet, chief executive of Cazalet Consulting, said charges based on funds under management values was problematic, adding: “This is a particular risk for networks with average adviser revenues of between £60,000 and £80,000 a year, with a fixed cost base of £20,000.
“If networks failed to make money while the commission-based sun was shining, how on earth will they survive if markets crash as they did in 2008?”
Last year the regulator announced it would delay the introduction of stepped capital adequacy rules for financial advisers until the end of 2017.
When asked if adviser firms could be exposing themselves to investment risk by relying on a percentage fee model, and if this could jeopardise capital adequacy, the FCA refused to comment.
Last year, in the final public meeting of the Financial Services Authority, Martin Wheatley, FCA chief executive, warned the industry that advisers charging a percentage fee were still exposing themselves to a sales bias.
Linda Smith, senior technical adviser at the Association of Professional Financial Advisers, said: “We know that some advisers are exploring things like working with customers on a retainer basis, where customers pay a monthly fee for a certain amount of advice.”
Adviser view
Graham Pratley, partner at Berkshire-based The Wealth Management Partnership, said: “This is definitely a risk I have addressed by taking a snapshot of the client’s investment each March. If there is a rise in the value of funds under management, our 1 per cent fee is based on that. If there is no rise, our fee stays at the level set in March.
“We feel this is justified on the basis that we provide an ongoing advice service and not a performance-related service.”
