Model Portfolios  

Advocate: Are MPS naming conventions too confusing?

This month's question: Are MPS naming conventions too confusing for investors?


Eugen Neagu, head of financial planning at Montfort

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Discretionary fund managers (DFMs) often list model portfolios by number. This indicates the relative risk between portfolios, without providing insights into specific offerings. 

Other DFMs incorporate more descriptive labels such as conservative, and some more ambiguous such as medium, which can deliver more clarity on levels of absolute risk. This creates immense subjectivity and challenges for investors, who must look under the bonnet. 

The risk of naming conventions is presented perfectly by cautious portfolios. Some can vary from a 30 to 60 per cent equity allocation. This poses a particular risk to investors attracted to cautious portfolios based upon past performance with low volatility. Good diligence will usually link high past performance to higher levels of risk.

Where DFMs measure risk by volatility, further complexities emerge. This includes methods, such as monitoring the Vix index, which uses options pricing to predict volatility. DFMs may also use equity exposure to measure risk. Relatively few use both volatility and equity exposure, or complex modelling such as value at risk.

The FCA should require DFMs to publish prescribed documents specific to each model portfolio, similar to fund literature.

Otherwise, I am unsupportive of model portfolio services being offered directly to clients. Ucits-compliant multi-asset funds that provide compulsory information are a better option.



Tony Catt, compliance officer at TC Compliance Services

Managed portfolio services are offered by many providers and present an excellent opportunity for investors to enjoy diversified investment without having to worry about the selection of stocks and regularly reviewing the market. They also remove some liability from advisers regarding investment selection.

The naming conventions are fairly standard throughout the industry with terms such as balanced and medium risk or conservative and cautious being interchangeable. The names themselves are fairly broad-brush and the tolerances for a particular style of fund to be suitable for any given client are quite wide.

The main issue is that advisers need to make sure the clients understand the level of investment risk that is applicable to each of these names and that the clients agree the description of the risk level is the closest match to their own risk attitude and circumstances at that time.

The use of risk questionnaires gives a useful indicator of the client’s willingness to accept investment risk. These provide some science behind the otherwise subjective discussions about investments and risk. However, while they indicate the willingness to take risk, a separate discussion needs to take place regarding the client’s need to take any level of risk and the ability to accept risk or capacity to accept loss.

The actual naming convention could not be much looser, simpler or clearer without being prescriptive, which would make their application rather unwieldy.