It is misleading to state that advisers are outsourcing to a discretionary investment manager, the Personal Finance Society said, warning that the continued use of the generic term adds to the confusion and leads to misunderstandings of who does what.
In February the Personal Finance Society commissioned a good practice guide to help advisers develop their approach to due diligence on discretionary investment managers, with one section dealing with common misapprehensions.
It noted that the common parlance of using ‘outsourcing’ is very misleading. “Referral to a DIM is rarely ‘outsourcing’, this is impossible unless the adviser has ‘managing investment permissions’,” read the guide.
Keith Richards, chief executive of the PFS, told FTAdviser that continued use of the generic term by everyone in the retail investment sector simply adds to the confusion and leads to misunderstandings of ‘who does what’ when two entities provide services to the same client.
“Why is it so prevalent? A quick look at the press, their ‘outsourcing centres’, the articles on outsourcing, the DIMs literature on outsourcing, research agencies continual references to outsourcing… it simply goes on.”
David Gurr, founding partner at Diminimis, which was responsible for putting together the PFS report, said that advisers ‘outsourcing’ to a DIM is largely folklore and contributing to widespread industry confusion.
“Those that use the term should consider the message they are actually conveying. The danger is that advisers assume the DIM is responsible for more than they actually are. As a consequence, they may not have the necessary systems and controls in place for the areas they are responsible for, leading to a ‘suitability gap’ and leaving themselves open to huge business risks.”
Research conducted on behalf of Dimiminis in April amongst more than 300 advisers found that two-thirds were unclear when asked where responsibility for investment suitability lay when using a DIM.
A fifth of advisers said they did not know, while a tenth thought it automatically transfers to the DIM and a further 40 per cent thought that it always remains with the adviser. Only a third understood that responsibility for investment suitability varied depending on the agreements in place.
In the foreword to the guide, Mr Richards stated that in the absence of a well-established due diligence model, some firms struggle to add the layer of additional cost that represents the best value for money for their clients. “There was also a lack of clarity over contractual relationships in terms of what outsourcing actually means and the resultant obligations on the adviser firm.”
Lawrence Cook, director of marketing and business development at Thesis Asset Management, said that there is a lack of clarity over obligations in the adviser/DIM relationship.
“Unless an adviser has the necessary investment management permissions - which every few do - then the DIM will have some responsibility, meaning when a client signs up they are essentially entering into a contract with the DIM.
“Advisers need to be clear to what extend they want the DIM involved, from meeting them and doing suitability reports through to having no contact whatsoever with the client.”
He added that the old way was for more of a hand over of responsibility, but increasingly advisers want to look after the suitability side of things, with managers purely handling the investments.
“Proper communications need to be maintained to make sure the risk output is understood by the DFM though, if there is a mismatch in terms of client risk tolerance then things can start to go wrong.”
Robbie Constance, partner at law firm RPC, explained that reliance on a DIM’s promotional material, mismatching contractual terms, risk profiles that do not map across and any failure to assign clear responsibility for suitability will no longer be tolerated by clients, firms or the regulator.
“The solution will have to be tailored to the relationship between the DIM, adviser and client and cannot therefore be a simple ‘off the shelf’ approach. The DIM and adviser must work together in a manner that evidences their systems and controls, putting the client first, and in so doing address many of the regulator’s concerns.”
He added: “By getting it wrong, firms expose themselves to claims and complaints when investments do not perform; the types and sources of the liabilities may surprise the firms, and their PI insurers.”
peter.walker@ft.com
