What is the price of good advice?
At the beginning of next year, a new era will begin for those who deal with an independent financial adviser. It promises to be a bright new dawn although it might have unintended consequences that could lead to consumer detriment.
As a result of a detailed piece of work conducted by City regulator the Financial Services Authority called the 'Retail Distribution Review' (RDR), IFAs are going to have to be more transparent in their dealings with clients.
The objective is to ensure advice is truly independent and that those who provide it are experts, not product pushers.
The FSA's intentions are honourable. It wants an end to the mis-selling scandals that have scarred the advice sector - everything from mortgage endowment policies and precipice bonds to the promotion of risky Arch Cru investment funds.
Such scandals have done untold harm, breeding consumer distrust and producing an era of financial apathy, where many people bury their head in the sand rather than seek advice. As a result of the RDR, IFAs will have to change their ways.
No longer will they be able to get paid via a commission payment from the product provider whose wares they recommend. Instead, they will earn their keep by charging clients a fee for their services. This fee will have to be agreed with the client before any actions are taken on their behalf.
The move from commission to fees is designed to bring to an end the awful practice of IFAs recommending products that are not necessarily in the best interests of clients but which pay the highest commission.
Juicy commission explains why many IFA clients have ended up with investment bonds in their portfolios (where commission payments to advisers can be equivalent to 7% of the sum invested rather than the 3% available with a unit trust).
Commission, or the lack of it, also explains why many IFA clients have never been introduced to investment trusts. Unlike unit trusts, investment trusts rarely pay commission to advisers.
Along with the need for advisers to meet more stringent professional standards, the regulator believes consumers in a post-RDR world will be able to trust IFAs.
I don't doubt the regulator will be anything but successful in its objective of raising the quality of independent financial advice in Britain. But it will come at a price.
The cost of being an IFA after the RDR world will be far higher than at present. That means advisers will have to go upmarket to survive. Others will simply give up the ghost, maybe reinventing themselves as a 'restricted' adviser, providing advice only on a limited number of products such as pensions.
Many consumers, therefore, are going to be excluded from independent advice. They will have to go along to their big, bad high street bank for advice, although they will probably come away disappointed. Only Lloyds Banking Group among the big banks now seems intent on offering advice from next January.
If their bank won't help, it means consumers either going it alone or turning to the Money Advice Service for help. The government-backed service, providing a wealth of financial information through the internet, telephone and face to face, says there are 11 million people in Britain who currently don’t get financial advice but who would benefi t from it.
With the shrinkage in the IFA market that the RDR will bring, the service has a massive information void to fill. Let’s hope it is up to the task, otherwise the RDR will have driven up the quality of advice while restricting its availability to a chosen few.
That can’t be a consumer friendly outcome.
A collective investment vehicle (known in the US as a “mutual” or “pooled” fund) and similar to an Oeic and investment trust in that it manages financial securities on behalf of small investors who, by investing, pool their resources giving combined benefits of diversification and economies of scale. Investors buy “units” in the fund that have a proportional exposure to all the assets in the fund, and are bought and sold from the fund manager. The price of units is determined by the value of the assets in the fund and will rise or fall in line with the value of those assets. Like Oeics (but unlike investment trusts) unit trusts and are “open ended” funds, meaning that the size of each fund can vary according to supply and demand of the units form investors. Unit trusts have two prices; the higher “offer” price you pay to invest and the “bid” price, which is the lower price you receive when you sell. The difference between the two prices is commonly known as the bid/offer spread.
The practice of a dishonest salesperson misrepresenting or misleading an investor about the characteristics of a product or service. For example, selling a person with no dependants a whole-of-life policy. There have been notable mis-selling scandals in the past, including endowment policies tied to mortgages, employees persuaded to leave final salary pensions in favour of money purchase pensions (which paid large commissions to salespeople) and payment protection insurance. There is no legal definition of mis-selling; rather the Financial Services Authority (FSA) issues clarifying guidelines and hopes companies comply with them.
A financial adviser who is not tied to any financial services company (such as a bank or insurance company) and is authorised by the Financial Services Authority (FSA). They can advise on financial products to suit your circumstances. All IFAs have to give consumers the choice of paying by fees or commission and have to explain which would best suit the customer in that particular instance. Also, if commission is paid either by the client or the financial service provider recommended by the IFA, the IFA must disclose what that commission is.
The Financial Services Authority is an independent non-governmental body, given a wide range of rule-making, investigatory and enforcement powers in order to meet its four statutory objectives: market confidence (maintaining confidence in the UK financial system), financial stability, consumer protection and the reduction of financial crime. The FSA receives no government funding and is funded entirely by the firms it regulates, but is accountable to the Treasury and, ultimately, parliament.