Your IndustryFeb 11 2015

Regulatory scrutiny of DFMs - and use by advisers

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In the past the regulator has criticised discretionary fund managers for running portfolios that were not suitable for the investors.

The regulator focused on the lack of client information held by the investment manager, which effectively prevented them from having sufficient knowledge to run a suitable portfolio.

According to Eric Clapton, chief executive of Wellian Investment Solutions, this criticism has seen investment managers seek closer relationships with the underlying client in order to meet regulatory requirements.

With reference to suitability, Mr Clapton says the regulator also queried whether model portfolios were sufficiently tailored to an individual client’s circumstances.

Mr Clapton says this concern has largely been answered by more robust reporting by investment managers of their model portfolios, including risk related performance, risk budgets and measurement of those factors against recognised benchmarks.

He says the regulator’s glare has also highlighted it is important that clients retain a qualified financial adviser to ensure that the portfolio selected continues to be appropriate to the client’s financial strategy and to meet their objectives.

And what about for advisers...

Back in July 2012 the regulator outlined in final guidance paper FG 12/16 its expectations for advisers when adopting centralised investment propositions, including discretionary managers.

Crucially, the paper made clear advisers retain responsibility for the client’s suitability when outsourcing, even if they are using a bespoke solution which is actively managed by a specialist investment manager.

If advisers are adopting a CIP from a third party, such as a DFM, the regulator states they should consider the following:

1) Terms and conditions.

2) Charges.

3) Reputation and financial standing.

4) Range of tax wrappers available.

5) Type of underlying assets which are commonly used.

6) Flexibility and whether this can be adapted to individual client needs.

7) Providers approach to undertaking due diligence on underlying investments.

In terms of the array of DFMs that an adviser must consider the FCA has indicated that the various discretionary solutions can all be appropriate, says Mark Stevens, head of intermediary services at Investec Wealth & Investment.

Mr Stevens says the regulator expects to see that a DFM enhances client outcomes but they have stressed the importance of the adviser’s role in ensuring that each portfolio is suitable.

He says: “The potential risk of ‘mapping’ the advisers risk outcomes to the portfolio mandate has been highlighted as an example of the importance of the adviser, supported by the discretionary investment management firm.

“This ensures that the client portfolio meets each client’s specific needs and requirements, together with ensuring client understanding of the investment, service, costs, etc.”

What is also important to note is that although the use of DFMs has increased by some 14 per cent since the Retail Distribution Review came into effect, according to Mr Stevens, the advisers’ role has only changed slightly when outsourcing to a DFM.

He says the adviser must always remember they cannot absolve themselves of all responsibility for the client’s investment portfolio as they now have responsibility to monitor portfolio performance and to ensure the mandate remains appropriate for the client’s circumstances.