RegulationFeb 20 2019

What the regulator expects from advisers’ duty of care

Supported by
Charles Stanley
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Supported by
Charles Stanley
What the regulator expects from advisers’ duty of care

The Financial Conduct Authority has been consulting on whether there should be a formal concept of duty of care companies should abide by.

But compliance consultants claim that many advisers already abide by the principles that the FCA sets out in its Discussion Paper 18/5, which describes some basic foundations that would make up that duty of care.

On top of this, while the principles provide high level “fundamental obligations” that advisers need to adhere to, there are more specific day-to-day rules that spell out clearly what an adviser should be doing, under the conduct of business sourcebook.

But as advisers increasingly outsource investments, the prospect of a duty of care raises questions about how this process will be affected.

If you’re an IFA you have to make sure you understand the DFM you’re recommending is designed for what you’re investing your client’s money in.Neil Walkling

For example, this could be used to manage the conflicts of interest faced by advisers using a discretionary fund manager. 

Gary Teper, head of investment management at Charles Stanley, says that when it comes to outsourcing investments, independent financial advisers “should be looking holistically at their clients’ overall financial needs and objectives, and their focus on this point is paramount. 

“When looking at a [DFM] provider they must be assured that they are the right fit in terms of company (many of our clients like the fact we are an independent company), but also the individual or team who will be managing the money in the way that meets the client’s needs – managing the portfolio suitability.”

Track record

Neil Walkling, managing consultant at Bovill says that the most important thing to consider when looking at using a DFM or model portfolio is to do proper due diligence and research on the companies you are about to use.

He says: “Some IFAs recommended clients invest in Strand Capital [which collapsed in 2017]. The discretionary manager was recommending clients invest in illiquid and highly risky, dubious investments, and some of these investments were run by people running Strand Capital as well.

“If you’re an IFA you have to make sure you understand the DFM you’re recommending is designed for what you’re investing your client’s money in.

“Do you understand what you’re going to do with your client’s money and have you investigated the track record of this DFM to make sure they’re a financially strong and reliable business?”

The FCA’s discussion paper spells out some of these principles that appear in the principles handbook, which advisers are already abiding by.

And it seeks to make many of them the basis of a more formal duty of care, if it decides to push ahead with it.

The first of these, principle two, means that a company “must conduct its business with skill, care and diligence”.

Principle six states: “A [company] must pay due regard to the interests of its customers and treat them fairly.”

When this comes to directing a client’s assets to an external manager then the FCA requires the adviser to act in the client’s best interests. 

Mr Walkling says one must ask: “Why are you doing this? Can you demonstrate it’s for your client’s best interests and it’s suited for you.

“A lot of IFAs will run their investment portfolios on an advisory basis; they’re doing the switching and doing a lot of the work in managing and tweaking these portfolios.” 

Detailed rules

The reason a lot advisers are outsourcing this work is because it takes away a lot of this work, but they have to make sure it is worth the extra cost.

Principle seven covers the information needs of clients and communications, which means a company must treat clients in a way which is clear, fair and not misleading.

A company must also take reasonable care to ensure the suitability of its advice and discretionary decisions for any customer who is entitled to rely upon its judgment.  

There is also a requirement about managing conflicts of interest.

Mr Walkling says: “There are detailed rules, but the principles are high level. In every area there will be rules for mortgages or investments, but the principles apply to everybody.

“The FCA will check up on whether the principles are being adhered to in its supervisory activity.”

This means that the watchdog will go through the client files to check that all the correct behaviour and suitability letters are being completed by the adviser.

Caroline Bradley, group risk and regulatory director at Tenet Group, says the FCA paper, which is aimed at all financial institutions, is, to a large degree, unnecessary.

She says: “[The policy] would put an additional layer of duty of care on top of what there is already.

“We would argue we already have a duty of care to our clients and we have a duty of care to comply with these principles; we have professional indemnity insurance to back us up on the rare occasion that we get it wrong.”

Principle nine, which states a company “must take reasonable care to ensure the suitability of its advice and discretionary decisions for any customer who is entitled to rely upon its judgment,” is in the FCA’s sightline for amendment.

In the discussion paper, the FCA states: “An amendment could be made to principle nine to require firms to act in the best interests of its customers when providing advice or when making decisions on their behalf as it is arguably in these circumstances that the case for applying a ‘best interests’ obligation is strongest.”

Building relationships

However, Ms Bradley argues that this is unnecessary, for while the whole paper applies to all companies in financial services, this section applies just to those that give advice, and therefore is directly suited to financial advisers.  

She says: “A firm must take reasonable care about the suitability of their advice.

“If you recommended a product to a customer you would have to take account of a customer’s personal circumstances, and make sure the product was the right product for them.”

She continues: “We have to do a detailed fact find. You can only access suitability once you know the client’s personal circumstances, and you get those circumstances both from the fact find and from your discussions with the client.

“[PII] exists so that if a client is misled, they can claim on the insurance at the firm. If the firm no longer exists, they can claim against the [Financial Services Compensation Scheme].”

She notes that in the majority of cases financial advisers have very good relationships with their customers and give good advice, with only a handful being poor advisers.

When things go wrong, and a client wants some redress from his adviser, the immediate option is to go to the Financial Ombudsman Service.

But the financial limit on this option is £150,000, and once you have successfully claimed this money on this means of redress, then all other options are unavailable.

If the client is seeking more, then the lawyers seek the legal option.

Nigel Talbott, partner at Wright Hassall, who has dealt with many complaints, says: “Quite often you will get a person who’s been with a financial adviser for 10 or 15 years.

“The relationship has been really good and then, for whatever reason, the adviser gets greedy, and they would like to earn higher commissions by putting people into riskier strategies, or go through lots more different types of provider to get higher fees.”

The FCA, understandably, will get involved if it discovers breaches of the rules, and has a full arsenal of investigative and sanctioning powers at its disposal.

Melanie Tringham is deputy features editor of Financial Adviser and FTAdviser.com