Regulatory pressures rising for discretionary fund managers

This article is part of
Discretionary Fund Management - October 2013

Wealth management as a sector has traditionally been seen as quite opaque, with its practises not always closely scrutinised and a relative lack of standardised procedures across the industry.

However, following increased regulation around the fund management industry, and an increased drive to make consumers more aware of what they are paying managers to do, the wealth management industry has also been made to explain its practices.

Discretionary managers have faced increased regulatory scrutiny in recent years as the advent of the RDR and the resultant increase in financial advisers outsourcing investment management has seen them increasingly targeted by the FSA and now the FCA.

Article continues after advert

Although the industry has been affected in a number of ways by the RDR, it has had two main regulatory impacts on discretionary managers; through the removal of commissions and rebates and through an increased focus on the suitability of investments for clients.

Prior to the RDR, some discretionary fund managers (DFMs) had been buying open-ended funds for their clients at a fee of 1.5 per cent, even though only half of that was taken by the fund manager and the rest was commission for intermediaries and other companies such as platforms.

The removal of the commission meant that the DFMs which had relied on that commission income were faced with two problems: replacing the income with higher fees and the laborious process of converting their back book of clients to clean fee shares.

Mark Rockliffe, head of intermediary sales at Heartwood Investment Management, says: “There are some discretionary managers who have seen a significant element of income from rebates. Those firms now have to replace that lost revenue and now have to re-engineer their back books so that they are all using clean share classes.”

In the past year, larger discretionary managers such as Brewin Dolphin and Charles Stanley have had to raise their fees, and they have cited regulatory pressures for doing so.

Gary Teper, a board director at Charles Stanley, explains: “The cost of providing our high service has gone up so we needed to respond accordingly. Part of this change is driven by the RDR as trail moves out of the system and the cost of complying with regulations mounts.”

But while the loss of fee income is difficult, the conversion process to switch from trail-paying shares into commission-paying shares still only entails a one-off cost. The far more costly, and time-consuming, additional regulation has surrounded ‘suitability’.

The regulator has clamped down across the industry on whether investments are actual suitable for the clients that are within them. This has come after a number of incidents and fines where investors have been sold completely unsuitable products.

To counter this possibility in the future, the regulator now requires checks be done on client suitability down to the smallest detail. This has imposed a huge new burden on discretionary managers, many of whom had not done this level of analysis before.