Retail Distribution Review to shake up retirement industry

Steven Nathan, Chief Executive of 10X Investments.

Greater transparency in the retirement industry is critical if we are to close the massive pension shortfall facing the majority of South Africans. These are the words of Steven Nathan, Chief Executive of 10X Investments (10X), who says that the release of the Financial Services Board's (FSB) Retail Distribution Review (RDR) is a welcome step towards achieving the objective of greater transparency within the financial services sector.

Nathan says that the current distribution model blights South Africa's retirement industry. "In its 2011 Global Fund Investor Experience report, Morningstar was particularly concerned about the use of sales incentives, contributing to our C- rating, the second worst grade among the 22 participating countries. The RDR paper sets out, in great detail, the many different distribution channels and fees charged, underlining the complexity of the system and the inherent conflicts of interest. The paper makes sound proposals on how to simplify the system and limit these conflicts."

He explains that the RDR proposes to change the regulatory framework for distributing retail financial products in South Africa. "Underpinning the RDR are three overarching proposals, which aim to provide a direct benefit in terms of improved disclosure and hopefully help deliver the ultimate objective to provide financial customers with a fair outcome, as envisaged by the Treat Customers Fairly (TCF) framework."

Nathan points out that the RDR proposes to distinguish between different types of services (i.e. between advice and other intermediary services) through a consistent set of definitions. "This will facilitate compliance and support a level-playing field for competing service and product offerings. Customers will then be in a better position to assess and select the types of services available to them, and the cost and value of those services."

Secondly, the proposed regulations will define the relationship between the adviser, or broker, and the product supplier - either as an independent, multi-tied or tied adviser. "This should help the customer assess the objectivity of the advice received," says Nathan.

Thirdly, the intermediary's remuneration will not be allowed to contribute to conflicts of interest that may undermine suitable product advice and fair outcomes for customers. What this means is that advisors will no longer be paid for the products they sell, only for the service or advice they provide. An ongoing advice fee will require ongoing advice. All remuneration must be reasonable and commensurate with the actual services rendered and all fees paid by customers must be motivated, disclosed and explicitly agreed to by the customer.

"It is important to point out that the RDR does not look at group schemes, such as occupational pension funds, which are afforded some protection by their fund's board of trustees and the employer's selection process," he adds.

Nathan says that the RDR proposals - as important as they are for retail investors - will not achieve this outcome by themselves. "Rather, it is the industry's response to these proposals that should create long-term tangible benefits."

These changes are outlined as follows:

More insightful advice. "We believe that banning commissions will improve the quality and relevance of advice," says Nathan. Once the incentive to sell a particular product is removed, advisors will confront the essential question:

costs-investors-require-full-and-fair-disclosure - what does my client really need? On investigation, they will find that the answer lies in principles - on investment style, asset allocation and investment costs - rather than products.

Less choice. The excessive choice evident today (investors can choose from almost a thousand different unit trusts) serves advisors much more than investors. "This would fall away once the fee model changes and fund manager focuses on the investor's rather than the adviser's needs,"
says Nathan.

Simpler products. Expressly paying for advice will focus the client's mind on the value received. More investors are likely to use online tools to educate themselves and invest direct. This would compel the industry to simplify not only its product range, but also its products.

Increased transparency. For investors to do their own research, they will need ready access to all relevant information, in particular investment style, return prospects and the fee impact. Providers who are transparent on these aspects are likely to attract more customers than those
who are not, says Nathan.

Lower fees. Informed investors are likely to focus on fees as this is the most predictable element of their future return. Increased awareness of the fee impact should increase price competition, which could mean that asset management may become a less profitable business.

Standardised reporting. To facilitate fair price comparisons, the industry would have to standardise charges and disclosure. "It is interesting that the UK debate on fee disclosure picked up considerably ahead of the commission ban in that country," notes Nathan.

Winners and losers. The prospect of real competition will force administrators and asset managers to differentiate on substantive issues - informed investors are unlikely to be swayed by a familiar logo and a large marketing budget. The likely winners will be low-cost index managers and active managers who can point to a proven process and track record.

"The RDR paper is quite long and technical, and it will therefore take some time, to digest it - and its impact on the retirement industry - in full," concludes Nathan.