Key considerations when choosing a DFM partner

06 February 2017

Nancy Mills – Insight Support Analyst (Funds and DFM)

Learning objectives – this article will provide you with a framework to select a DFM partner effectively, repeatedly and within the guidelines of the FCA.

Over recent times, the use of Discretionary Fund Managers (DFMs) by advisers has undoubtedly been on the rise. Numerous articles in the industry press and our own experience echoes this.

Every now and then, we find it useful to re-cap on the fundamentals of selecting a DFM partner. We will also consider how to ensure that one’s chosen partner or partners remain appropriate on an ongoing basis, achieved through continual and repeatable due diligence.

At the very heart of your selection you should be considering the best outcome for your client(s). The FCA is committed to ensuring good outcomes for consumers and consideration of this should underpin any due diligence you perform. Second to this is to ensure that any DFM partner(s) should complement your own business structure.

This article is to provide guidance on undertaking due diligence when selecting a DFM or DFMs to partner with. I have assumed an appropriate and detailed client segmentation exercise has already been completed and you have already made the decision that a DFM is the most appropriate and suitable solution for your client.

Some specific reasons for a referral to a DFM may include tax complications, specific decumulation requirements, clients that require the personal touch or are more comfortable knowing that the segregated nature means they own the funds or stock. You may have segmented your clients into more than one category and each may require a different approach to the due diligence you need to perform. It is hugely important that you do not fall into the trap of ‘shoehorning’ clients into solutions that are a best fit for the adviser practice. It is standard practice to have a panel of DFMs to turn to, each providing something different.

For each different client segment, consideration should be given to the most important aspects of a DFM firm for both you and for your client. From our own research (DFM adviser service study, 2016), we have found the top four categories of importance to advisers are:

  • Quality of staff – Investment (1st)
  • Service (given to end client) (1st)
  • Ease of doing business (3rd)
  • Investment flexibility – range of options (3rd)

However, I will reiterate, taking precedence over what is most important to you is what is most important to the client, although what is important to the adviser will often have a positive knock-on effect to the client. There are, of course, many more areas that you might believe are important, such as accessibility (in terms of tax wrapper and platform availability), portfolio flexibility, assets used, assets under management, costs, percentage of business placed through advisers, performance.

Tools such as Defaqto Engage can help you filter out those DFM firms that do not meet your client’s ‘must have’ criteria. Whichever method you choose to filter on, you should be left with a ‘longlist’ of DFM firms.

The next step in the process may well be to ask each of those DFMs to complete a due diligence questionnaire. The answers to these questionnaires should enable you to create a shortlist. Be aware, the FCA has been very clear about the need for advisers to base decisions on partnering with a third party on facts alone. Marketing literature and any opinion expressed by the DFM firm should not be relied upon to make any decisions. Ensuring you can evidence that your decisions have been based on fact is essential.

Once you have your shortlist of DFM firms, I would strongly recommend that you engage with the firm, meeting each of them in person. They should be more than happy to accommodate you and if they aren’t, this may be reason enough to disregard them.  During this meeting you will be able to test previous responses, delve deeper into their working practices and gain a better understanding of their relationships with clients (your clients!). You should ask questions about their philosophy and structure in order to determine which firms are most aligned with your own; being able to do business efficiently and in harmony is in everyone’s interest.

We have found that most adviser firms, on average, partner with two or three DFM firms.

Your due diligence can be supported by Defaqto Star Ratings and, if you use our Risk Profiling tool, you will be able to identify which DFM firms have had their model portfolios risk rated by Defaqto.

The main points to remember from this article are:

  • A good client outcome is the most important factor. It should be evident throughout your due diligence that this has been at the forefront of your research
  • Match solutions to clients first, to your business second
  • Document the process so it can be repeated in the coming years and, importantly, to evidence your selection process

Question: Which two parts of the due diligence process outlined above have had specific FCA guidance/input?

 

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