Discretionary Management  

Beware of the rules around DFM

This article is part of
Guide to Discretionary Fund Management

In a paper released earlier this year, “Agent as client: What you need to know”, the PFS noted that some advisers may have entered such arrangements without proper documents, leaving them vulnerable to legal claims from clients.

“If you have signed an intermediary agreement with a DFM, based on the agent as client rule, but have not read and understood the terms and checked your client agreements meet with the requirements, you may have inadvertently left yourself vulnerable to future claims,” the paper warns.

“If a standard advisory agreement is in place between you and your client, you are unlikely to have such a level of authority and have therefore exceeded your client’s authority.

"As such this may lead to DFMs not being properly appointed by you as you do not have the legal power to do so.”

As such, advisers need to closely analyse the documents clients have signed.

Greg Mullins, director of sales at Rathbone Unit Trust Management, adds: “It is essential that advisers understand the contractual basis on which they are operating and ensure this is right for their client, business model and regulated permissions.

“In general, it has been poorly understood that a contract exists and what the consequences are of different client on-boarding methodologies.”

They should also make sure clients fully understand the agent as client arrangement.

The end client would not be able to take the DFM to the Fos, for example, while advisers have additional fiduciary duties to the end client.

The PFS also notes that under agent as client, the DFM “often has no knowledge of the end investor and there is no direct contractual relationship with the end investor”.

This can potentially make it difficult to meet the Prod requirements of segmenting clients by need.

Agent as client can also affect investment portfolio composition, both positively and negatively.

An adviser can be considered a “professional client” of the DFM, meaning the latter can potentially use more esoteric investments that cannot be promoted to private investors.

As such, under agent as client the portfolio may include investments that could promise good returns but also bring challenges such as liquidity issues.

There are alternatives to agent as client.

As mentioned, an advice firm can arrange for the client to have a direct relationship with the DFM.

Under the FCA’s “Reliance on Others” rules the adviser and DFM share a regulatory duty of care to the end client. The end client can also take the DFM to the Fos in the event of a grievance.

As FCA rules, Mifid II obligations and other regulatory requirements continue to evolve, the relationship between an adviser and DFM will only incur greater complications. As such, education and due diligence on the part of the adviser is as important as it has ever been.