Recent data from the Financial Conduct Authority would appear to show that the advisory sector is in good financial health.
But there are grey clouds of increasing price pressures on the horizon.
In the regulator’s June analysis of the intermediaries sector, based on data from Retail Mediation Activities Returns, it found that total reported earnings by financial advisers increased by 22 per cent to £4.5bn in 2017, while aggregate pre-tax profits jumped by 23 per cent to £698m. The increased profits have been driven by the growth in headline revenue, with small firms having the highest pre-tax profit margin at 43 per cent of total revenue.
Total revenue earned from retail investment business
Source: FCA
Scott Gallacher, director at Rowley Turton, said the growth in earnings was a direct result of the retail distribution review (RDR). Mr Gallacher said: “With the RDR we had a lot of people leave the profession. A lot of banks pulled out of giving financial advice.
“At the same time there was the [focus] on qualifications which would have also driven people out. So you ended up with more qualified financial advisers on the back of what was a massive decline in financial advisers anyway.”
Demand outstrips supply
The assets of those with large pots of money has increased, while the explosion in defined benefit (DB) transfers has also had a big effect.
Mr Gallacher added: “The economy is doing okay, maybe not for the man on the street, but those people with money have done all right. You have the economy at the top end being okay, recovering from crisis and fewer advisers and more highly qualified advisers who feel they can charge more.”
Key points
- Total earning by financial advisers in 2017 rose 22 per cent
- Clients choosing drawdown have had a big impact on advisers’ bottom line
- The advice gap shows no sign of disappearing
David Penney, director at Penney, Ruddy and Winter, said: “Markets have gone up, so earnings have gone up, and then you have the rise in assets under management.
“[Also] the huge increase in final salary transfers has boosted funds under management. And post-RDR there are not enough advisers to cover the demand out there. Some costs have gone up, but profits have gone up because the increase in earnings has gone up faster than the increase in costs.”
Ongoing charges formed a massive proportion of the growth in earnings advisers have seen, which advisers say has been driven by the need to manage the increased amounts of DB transfer transactions.
Adviser income in 2017, attributed to ongoing charges, grew by 28 per cent to £2.82bn from £2.2bn in 2016, while the revenue from initial charges grew by 24 per cent over the same period to £1.83bn in 2017 from £1.48bn.
The report said the significant increases in ongoing and initial adviser charge revenues are not fully explained by the increase in the number of ongoing and initial customers reported by firms.
These increased by 8 per cent and 1 per cent respectively over the same period.
Total adviser charge revenue by type of investment
Source: FCA
According to Mr Penney, the increase in ongoing charges can also be attributed to the changes in the annuity market, which has been “completely flipped on its head”.
As more people are now opting for drawdown instead of annuities, it has created the need for their portfolios to be managed on an ongoing basis.
But amid the positives there are still price pressures that could threaten the livelihood of advisers. Firms reported paying more than £300m in professional indemnity (PI) insurance premiums in 2017, a new addition to the FCA analysis this year. The average premium paid as a proportion of revenue earned from mortgage brokers was 1 per cent, and 1.9 per cent for financial advisers.
Cost of excess
According to a survey by NextWealth last month, financial advisers that renewed their PI insurance policies in the past six months have seen their premiums rise on average by 21 per cent.
Mr Penney said the amount of excess advisers have to pay if they have a claim is going to become such a concern that advisers should also consider increasing the amount of capital they hold.
He said: “You can still get PI insurance. Where you do have an issue is if the excess is high. If you have multiple clients affected by the same issue, that could cause a huge problem and therefore the capital adequacy rules are probably not sufficient in light of the PI problems being presented. What you should really be doing is putting money aside, to cover your multiple excess payments.”
The advice gap, though it has proved profitable for advisers, highlights another issue that could become a massive problem in the near future.
As more advisers retire from the sector, it means even more people will have less access to advice.
According to Mr Gallacher, this problem has been exacerbated by the loss the profession has suffered from its natural recruitment ground.
He said that historically, people used to enter the sector through the direct sales routes, roles which were typically offered by the likes of Legal & General or Prudential.
There, individuals would be trained up to be financial advisers and later on some might decide to become independent financial advisers.
Mr Gallacher added: “There are negatives. Capital adequacy rules, rising PI costs and increasing levies and fees. But it also depends on where you are [as an adviser].
“If you are trying to enter the profession those are all negatives. But if you are already in the profession and have an established, successful business, these challenges [reduce competition] as they are barriers [for others to enter].
“If we look at what is best for the profession, these things are really bad, because you should be encouraging people to enter the profession. It needs a certain critical mass to work best for everyone and there is a huge advice gap.”
Mr Penney added: “There are nowhere near enough advisers. The only way you can [start to solve the problem] is to have a much lower cost service and it’s quite difficult to provide that service if you have to go through the full compliance process that the regulator dictates.”
Product transfers
The FCA report, which also looked at the earnings of mortgage brokers, found that this sector was growing.
Total revenue earned from regulated mortgage business
Source: FCA
Ray Boulger, senior mortgage technical manager at John Charcol, attributed this to an increase in remortgaging transactions and product transfers.
“More lenders are allowing brokers to do product transfers, whereas a couple of years ago, they didn’t,” he said. “Every broker has the opportunity to boost their product transfer business significantly. While overall mortgage lending is likely to rise slowly this year, for brokers there are opportunities.”
But Mr Boulger warned the biggest challenge to mortgage brokers is the need to be aware of how technology is changing.
He said that advisers need to make sure they introduce enough technology into their process to make themselves more efficient and to speed up the administrative side of their business.
Mr Boulger said: “But where the long-established brokers can score over online brokers is that we have a lot more experience and more lender relationships. Providing the long-established brokers can manage to marry up new technology with their existing processes they’ll be in a good place, but if they don’t embrace the new technology then of course they could be left behind.”
Advisers are financially enjoying the fruits of their labour, but less competition highlights a growing advice gap that urgently needs to be addressed sooner rather than later.
Ima Jackson-Obot is a features writer at Financial Adviser and FTAdviser.com
