Impartial Investment Portfolio Advice

1939: You Can't Cheat An Honest Man

I spent the first half of this week at the annual IFP (Institute of Financial Planners) conference. The IFP are to my mind the leading professional body for proper financial planners. It is a fairly "top drawer" group who share ideas and work with a set of shared values and ethics.

At one point, I was talking with fellow advisers about investments for clients. We are a pretty open and honest bunch, some do the investment themselves, whilst others outsource the service to a Discretionary Fund Manager or DFM. A DFM has the ability to trade and deal without asking permission from the client (other than at the very outset of the relationship). They are effectively a stockbroker. Some are pretty good, but many are pretty hopeless (and believe me, some are really very hopeless). Many advisers have been switching their clients across to DFM services, because they have been concerned that to invest money for clients carries compliance risk and many don't possess the skills or time (or both) to look after portfolios. One of the most significant problems is evaluating performance and getting DFMs to properly outline their understanding of "risk", "long term investing" and "volatility" and keep to the brief outlined for the client.

Several of us agreed that one of the problems with DFMs is that despite the fact that advisers don't manage the portfolio, they still get paid by the the DFM for effectively adding little of value to the client (it is clearly valuable for an adviser to review the performance of the DFM - and ideally establish the parameters). Another problem is that as DFM's focus purely on investing, they tend to trade a lot, creating liability for capital gains and income tax, perhaps without regard for the full picture which is a significant advantage that advisers should have. Indeed due to VAT rules, this sort of service can be even more expensive to the client. Those that I spoke to admitted that they struggle with the ethics of advisers being paid the same amount if they hand off the work to a DFM rather than doing it properly themselves. This is one of those topics that simply doesn't get talked about in clear terms, but it is refreshing to find advisers at the IFP that have high standards.

It would seem that the regulator tends to agree, having announced today that advisers cannot be paid by DFMs (but they can be paid by the client). I can see the logic and wisdom of this, but I'm now also concerned that as a result of this formal decision a couple of things may happen. If advisers don't get paid by a DFM, I imagine that those that have told clients to use a DFM may find excuses to bring the money back under their management and would probably discourage their clients from using a DFM. I have already acknowledged that a DFM may be suitable for some clients, so a carte blanche "I never use DFMs" would seem to my mind to be very unwise and contrary to being impartial. This dilemma could all be avoided with properly agreed fees - something that we have always done with our clients.