Managed Assets – In the eye of the storm

15 November 2017

This article first appeared on the FT Adviser website on 19th September

Fraser Donaldson - Insight Analyst (Funds and DFM)

We have all been through RDR, adjusted our business models accordingly and settled in to the brave new world of commission free, unbiased, client investing.

Many adviser businesses, whether restricted or independent, now have a centralised investment proposition (CIP) at their heart. Following guidance from the regulators these CIPs will contain a range of investment options with choices that are suitable for the majority of clients.

Typically, a CIP will contain multi-asset funds (usually fund of funds), Bespoke discretionary services and discretionary managed portfolio services.

It is no coincidence that the growth of discretionary services has coincided with the RDR, as advisers looked to outsource some or all of their investment process. The old model of advisers managing their clients’ portfolios using single asset funds is slowly becoming a thing of the past.

It is accepted that entrusting client assets to full time, well resourced investment specialists (fund managers and discretionary managers) is going to be in the best interests of the client. Of course there are some adviser firms that are big enough and resourced enough to operate their own asset management arm, but these are few and far between.

Growth in multi-asset, multi-manager funds has been a major success story over the last 15 years, which according to the Investment Association have grown from £11bn at the beginning of the new century, risen to £34.8bn in 2007 and stood at £127.2bn in 2016. Perhaps more impressively this accounts for 12.2% of all funds in 2016 compared to 7.4% in 2007.

I am ‘veteran’ enough to remember back in the 1980’s when multi-manager funds were viewed with some scepticism with whisperings of double charging and a feeling that advisers were not doing their jobs if they left their fund selection to a multi-manager. However, with the above figures, you can more or less pin-point (early 2000’s) when the outsourcing story had begun to take off, and really taken hold in the period leading up to implementation of the Retail Distribution Review.

So, what has all this got to do with discretionary managed portfolio services? I think there is a parallel to be drawn here in the evolution of this investment solution. It is less than ten years since Defaqto started researching discretionary managed services (bespoke and MPS). Many of the people we talked to in the industry told us that discretionary services were rife with hidden charges and double charging was common.

Sound familiar? I cannot say whether these accusations were true or not, but the perception was there. It is true to say that charges were difficult to get to the bottom of, but I have not come across any incidences of double charging in discretionary management over the last eight years or so.

It seems that Defaqto picked up the discretionary story, some would say encouraged it, at the point where the discretionary industry was ready to join in on the outsourcing story that had been considerably strengthened by the RDR. We have witnessed discretionary firms working very hard to compete with multi-managers and growing the kind of adviser support that is already provided by fund management companies.

It is notoriously difficult to get industry figures for discretionary assets under management but I would suggest that the growth experienced by discretionary firms over the last 5 years is equivalent to the growth experienced by multi-managers that took them from £15bn in 2004 to £90bn in 2013 (first year of RDR implementation).

Perhaps the biggest leap forward in adviser DFM consideration was the availability of MPS portfolios on adviser platforms, as they are at the heart of most adviser investment business. Once DFMs accepted that they were losing custody of the assets to the platform, but would still be paid for the management of the portfolios, this opened up the opportunities for the discretionary firms.

In the meantime, what is it about discretionary management that has sparked so much interest from the adviser community?

There is obviously bespoke portfolio management which has always been at the heart of the discretionary industry, perceived as high on personal service and ideal for clients whose affairs require close personal attention. For many, it is the kind of client/manager relationship that can be aspired to.

With minimum investments usually commencing at £250,000 and up, bespoke portfolio management is not really the kind of solution that is going to be accessible to the majority of potential clients. Step forward the Managed Portfolio Service! Still a segregated portfolio of holdings, but crucially they are usually structured to a targeted risk or return profile.

Clients, or advisers on their behalf, would match to an existing MPS portfolio that most meets their needs. This means that similar to a fund, all clients in a particular portfolio will have the same portfolio.

In truth, an MPS portfolio is not very different to a multi-asset, multi-manager fund. There are some tax treatment differences on trading and an MPS solution will retain some elements of the bespoke service, usually in-depth of reporting and up to date portfolio visibility. Some may even view MPS as a stepping stone to full bespoke discretionary management at a later date.

I have read and commented on what seems to be acres of column inches reporting on the need for deeper due diligence when selecting a discretionary service for a client, or more likely these days a particular segment of clients. The implication is that advisers need to embark on a due diligence exercise that is far deeper and more complex than they are used to.

For me though, good due diligence has never changed. I believe that the regulators with their guidance and thematic reviews are simply reminding us what is expected (and what has always been expected) when undertaking a selection process. In broad terms, this should be the same whether the solution is a fund or a managed portfolio service.

Good due diligence should always start with knowing your client, or knowing your client segments. At its simplest, due diligence is finding out about the firm providing the product or service and then finding out about the proposition itself. It is then a matter of exercising professional judgement as to whether the findings are acceptable to both adviser and the client. If you do not ‘know your client’, the due diligence exercise will inevitably be flawed. 

In terms of what good due diligence looks like, it should be common sense. Adviser businesses will have certain questions about firms they are considering doing business with, and clients will have certain questions about what is going to happen to their invested capital and what their expectations should be from initial investment, through the investment journey and finally in terms of expected outcomes. It is the job of the adviser to articulate the concerns of the client and factor it in to the due diligence process

When it comes down to it there are only a handful of fundamental questions that need answering:

  • Is a managed portfolio service suitable for the client? Good client segmentation and knowing your client should reveal these answers.
  • Are the discretionary firms being considered in the best position to deliver on client expectations? This covers everything from financial strength and resource through to softer issues such as adviser support and investment philosophy compatibility
  • Are the MPS propositions on offer from the discretionary firms under consideration, competitive in terms of value for money and flexible enough in terms of what the client requires? This covers everything from cost and charging structure through accessibility on third party platforms and tax wrappers to regularity of and arrangements for income payments
  • Are all parties clear where responsibilities lie? In the majority of cases with MPS, it is the adviser that takes on the responsibility for suitability of the proposition and the discretionary manager that has the responsibility of sticking to the investment mandate.
  • What is the depth and frequency of reporting?
  • Can the firm deliver on client expectations? This covers everything from portfolio risk ratings through to performance and investment manager credentials
  • Ancillary services such as online valuations and transaction histories
  • And finally, what are the exit arrangements and associated costs?

Of course these fundamental questions are made up of lots of supplementary questions, but if you and your client are comfortable with each of the headline questions, the possibility of client disappointment is greatly reduced.

So, why call this article ‘The eye of the storm’. Well, as indicated at the start, most financial services firms have now embraced and settled in to a post RDR world.

However, as is often the case with regulation, after a few years of calm, things are about to get shaken up again with new regulation – MiFIDll, PRIIPs and a whole raft of new consultation papers. Usually viewed as costly, time consuming and quite simply a distraction from attending to the main business of the firm. However, I believe this regulation is very good news for both adviser and the client.

There is an emphasis on transparency, which means that information is likely to become more readily available and hopefully delivered in an industry standard way. In particular, elements that have been traditionally difficult to get to the bottom of such as cost, performance and asset allocation. This, in turn, means that adviser and client concerns are much more likely to be addressed in a clear and concise manner

There will be much more independent governance of all aspects of investment, which includes discretionary. This breeds confidence in the firms that may be selected as third party outsources as there will be ‘someone on the inside’ looking after the interests of the client.

Come 2018, undertaking due diligence that is deeper, more robust and wider ranging is a welcome reality. This can only breed more confidence and trust in the industry from adviser and client alike.

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