IFAJun 20 2019

What is client segmentation?

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What is client segmentation?

The process by which advisers focus on certain clients groups based on their profitability is called client segmentation.

Experts say the Retail Distribution Review that came into effect in 2012 has made client segmentation a more common occurrence in the industry.

So what is it client segmentation and how did it come about?

Retail distribution review

Graeme Jones, regulatory policy and technical consultant at Bankhall, says: “The change from commission-based to client agreed remuneration (adviser charging) as a result of the RDR  prompted many investment advisers to think for the first time about segmenting their client banks in order to review and develop their service propositions.”

He adds: “RDR brought a shift from models weighted towards ‘transactional’ business to the development of ongoing service propositions.”

Since RDR, many advisers have divided their clients into three or four levels, providing more services and charging more to some, but charging less and providing fewer services to others, say experts.

Several others in the industry note an uptick in client segmentation following RDR.

Chris Davies, founder of Model Office says RDR put a whole spotlight on advice suitability and made sure that advisers weren’t “shoehorning or retrofitting clients” by applying products that are not suitable for those clients.

RDR removed commission bias from the system so that recommendations made by advisers are not influenced by product providers, resulting in greater transparency for retail investors.

A consequence of RDR was that advisers had to allocate more time and resources to each client.

Mr Davies adds: “Advisers have to play around and juggle to make sure your client’s needs are met [as a result of RDR].”

Gold, Silver, Bronze

Mr Jones says: “Firms looked to categorise clients by a variety of methods including assets under management, client revenue, through to the type of services they were able to offer and how they were priced.”

Platforms have acted as enablers for investment advisers to implement their propositions following any segmentation exercise, he adds.

Mr Davies says: "The traditional way advice has been segmented is through the ‘gold, bronze and silver’ method.”

He says many advice firms segment their clients based on the amount of assets under management that they hold.

“How do you set your minimum, what happens to those that fall below the minimum?” he questions.

He cautions that there are dangers around advice firms using the “gold, bronze, silver” method of client segmentation.

They need to blend this with client behaviour, emotional attachment with technology as this will help clients understand their attitude to risk and different fund types,” he adds.

The need for segmentation

Rory Percival, regulatory expert at Rory Percival Training and Consultancy says while the Financial Conduct Authority has not made client segmentation mandatory, “it is a logical step that firms should take as part of this assessment of their client bank in designing investment solutions and platform selections”.  

Mr Percival says somebody in their forties who is still building up their pensions and Isa pots is going to have very different needs compared to somebody going to the decumulation stage, the process by which pension savings are converted into retirement income.

“That is one kind of client with one kind of investment needs which is very different from a client who is at retirement, got a half million pot, or a million pot as pensions investments.”

He adds: “In order to be able to efficiently structure your client propositions, it makes sense to segment your client bank to allow you to map solutions to clients or effectively in groups to create a better framework to deliver services and outcomes to clients.”

Mr Jones says segmentation has become more significant following the implementation of  the Markets in Financial Instruments Directive which came into effect in January last year.  

Under the new rules, manufacturers - such as fund managers - are obliged to define a target market for every one of their products.

He adds: “Segmentation has obviously now become more important in terms of understanding and being able to match products to the right target.

“This is particularly the case for products with specific or unique features or – in terms of investment business – products that are higher risk.”

saloni.sardana@ft.com