Multi Asset June 2017  

Regulatory matters to consider with multi-asset advice

  • To understand where the focus should be when choosing multi-asset funds
  • To ascertain levels of risk and client suitability.
  • To learn what sort of regulatory guidance or legislation will apply to assessing suitability.
CPD
Approx.30min

“Generally, this is taken to be satisfied by the use of a psychometric risk questionnaire, to select the appropriate multi-asset fund. However, this simplistic approach overlooks many issues, which may ultimately come back to bite the industry.”

He argues there is no consistent approach taken to mapping funds to the various consumer risk profiles. As different firms use entirely different methodologies, the result is the same customer could be given recommendations of multi-asset funds, with very different risk attributes, by different adviser firms.

Mr Moss says: “Many firms use historical volatility to assess the riskiness of funds, but as we all know, past performance – including volatility – may be no guide to the future, so this method is fundamentally flawed.”

Risk

Ascertaining the right risk profile of the client, and matching them to the most appropriate fund, is a core component of the multi-asset advice process.

While this may work at the initial point of recommendation, the suitability of the fund to the client over time needs to be reviewed constantly. Not only do the client’s circumstances have a propensity to change over time, but so also does the risk profile of various assets.

Mr Moss explains: “Risk varies with duration. A cash fund is very low risk for short durations, but not so for long durations, because interest rates can vary substantially with time, giving very different return outcomes.

“A bond fund with an average term of its individual bond constituents of, say, 10 years, will have a ‘V-shaped’ profile. For example, it will be higher risk for short duration and low risk around 10-year durations, when most of the bond constituents mature, with risk increasing thereafter as duration increases.

“Equities and property have different profiles again. So, any multi-asset funds with different blends of these asset classes will have very different risk/duration characteristics.”

Mr Robertson says it is important to keep on top of the investment once it has been chosen, because markets change and therefore so does risk.

He explains: “The investment climate has changed dramatically over the past decade, which has made it more difficult for many multi-asset managers to deliver acceptable returns, net of fees, without embracing a higher level of risk at times.

“Therefore, it is of paramount importance to ensure the proposed product continues to match up with your client’s level of risk."

Interrogating the management process

According to Mr Phillips, while “there are no certainties in investment”, having a process is likely to provide a more consistent and predictable outcome and is likely to be less reliant upon the whims of one individual or their tenure at a particular fund house.