Will the SA investment industry ever treat customers fairly?

Invest R10,000 for 40 years, earning a 5% real return per annum and the projected value is R73,900 (in today’s terms). Now factor in fees of 3% pa - the average cost of retail investing in South Africa: you receive just R22,500 the investment industr

“This is brutally unfair. On average, SA retail investors receive just 20% of the long-term investment return,” notes CEO of 10X Investments Steven Nathan. “It isn’t surprising the industry is being warned to treat its customers fairly.”

The Financial Services Board’s (FSB) new “Treating Customers Fairly” (TCF) drive is likely to be implemented in 2014.

The core aim of TCF is to raise the standard of business conduct when interacting with clients. The six ‘fairness’ outcomes listed in the FSB’s TCF campaign are lifted from the UK Financial Services Authority, which launched its own TCF in 2009.

“It simply beggars belief that an industry must be forced – by threat of sanctions including suspending licenses, penalties and public humiliation – to treat its customers fairly,” Nathan points out. “The investment industry is notorious for poor customer treatment, here and abroad. It's telling that this initiative applies to the financial services sector alone, rather than SA industry as a whole.”

John Bogle, the father ofindex investingand former CEO of Vanguard, the largest mutual fund in the world, remarked: “When the investor puts up 100% of the capital, assumes 100% of the risk and gets 20% of the return, while the investment industry, which puts up 0% of the capital and assumes 0% of the risk, receives 80% of the return, then something has gone terribly wrong.”

Nathan believes that while the TCF is admirable, the investment industry is likely to pay little more than lip service to the initiative.

“Asking an industry which has a foundation of inherent self interest to be fair, is like asking a lioness not to hunt,” notes Nathan. “It's just not realistic.”

He notes that even the FSB doesn’t expect this initiative to deliver fair outcomes, only ‘fairness outcomes’. “There’s a world of difference.”

“The present industry model protects the interest of its employees, brokers and shareholders, typically in that order. The interest of investors is secondary,” explains Nathan. All four parties compete for the same investment return generated by financial markets. This is a zero sum game, and the industry largely determines who gets what.

“There is an inherent conflict of interest. As investors stand last in line, they inevitably get the scraps.”

Nathan notes that other character flaws in the industry’s DNA include complex products, jargon, sales incentives, undisclosed fees and charges.

“The priorities and practices of the industry are disproportionately balanced in their favour,” says Nathan. “Change must occur at a fundamental level for fair customer treatment.”

Nathan believes the TCF’s outcomes, while well-meaning, will not achieve this change. “They are vague and unquantifiable. What exactly does ‘appropriately informed’, ‘suitable advice’, ‘acceptable standard’ and ‘unreasonable post-sale barriers’ mean? And without context, even clear information about fees can become meaningless.”

Still, the FSB is serious. It has three pillars to make the TCF work: a regulatory and supervisory framework, a culture framework with proactive supervision, and incentives and deterrents.

“The sad truth is the TCF campaign is apt to be about form, not substance,” says Nathan. “The result: a fresh layer of bureaucracy with no change to the customer’s investment returns.”

Nathan believes a complete change is needed by the industry.

“This means placing the interest of investors first, and acting on the basis of stewardship, not salesmanship. Service providers should assume a fiduciary duty to exercise more care over investors' money than they would over their own,” says Nathan. “That’s what customers need and expect.”

1. Customers are confident that they are dealing with a firm that regards the fair treatment of its customers as central to its culture.
2. Products and services marketed and sold in the retail market are designed to meet the needs of identified customer groups and are targeted accordingly.
3. Customers are given clear information and are kept informed appropriately before, during and after the time of contracting.
4. Where customers receive advice, the advice is suitable and takes account of their circumstances
5. Customers receive products that perform as they have been led to expect, and the associated service is of an acceptable standard and as they have been led to expect.
6. Customers do not face unreasonable post-sale barriers to change product, switch provider, submit a claim or make a complaint.