Too much risk will eat away at your business

Never before have the pressures and risks facing financial advisors been greater. However, the need for their investment services has never been direr.

The fall-out resulting from the 2008 financial market crisis witnessed a plethora of new financial market regulation being introduced globally. It therefore came as no surprise that South African regulators were similarly eager to streamline financial legislation under the impending reform called Retail Distribution Review (RDR), after witnessing similar reforms occurring internationally in Australia, the US and UK over the last decade.

The silent predator

There has however been a more subtle change taking place within the financial market regulatory landscape - one which has had a materially larger impact.

The gradual shift in the investment industry from the more prolific defined benefit (DB) pension fund schemes a few decades ago, to the now much more widely encountered defined contribution (DC) pension fund structure, has had some very far-reaching effects in terms of the investment risk which the public consequently has to shoulder.

First and foremost amongst these impacts is the transference of investment risk from corporates - specifically their pension funds - to members and therefore end investors. Under DC, employer pension funds are no longer directly liable for ensuring that there are sufficient funds for retirement for employees; members now bear the brunt of any investment shortfall.

This silent shift has been underway globally over the last few decades, and will mean that the retirement security which our parents and grandparents knew and relied upon for a safe retirement will not be there for the current or future generations of savers.

Be responsible

The need for responsible and appropriate investment advice is therefore evident and further accentuated as information on investment options has become more readily available. This is accessible online and investors are now able to make many of these investment decisions themselves. However, they often lack the appropriate assessment framework and technical know-how to be able to accurately do so.

The answers to very elementary yet common questions still seem to elude investors, including how much savings they need to be able to retire as well as whether or not they are taking sufficient risk to meet their goals or too much.

All of the above is however occurring within the backdrop of independent financial advisors (IFAs) coming under severe pressure, not merely in terms of the fees which they are able to justify, but also the increased need for specialisation given all these risks and regulatory reforms.

Consistency is key

We have witnessed several cases from the financial services Ombud in recent years which have highlighted the need for IFAs to focus their efforts with renewed emphasis on ensuring that the advice provided to clients is not only appropriate and suitable, but also consistent and scalable across investment platforms.

It has become clear that many IFAs are still struggling to overcome some of the key hurdles set by the Financial Advisory and Intermediary Services Act and Treating Customers Fairly, prior to the arrival of RDR. This has merely accentuated the need for IFAs to streamline their practices and to outsource activities which they should not be attempting to take regulatory responsibility for if they are not suitably equipped to do so.

Paramount amongst these is the typical Cat II responsibilities incorporated within their investment solutions functions of asset allocation, fund due diligence, client portfolio construction and ongoing risk management.The days of compiling client portfolios based on merely looking at yesterday’s winners is rapidly coming drawing to a close. In the absence of outsourcing the above functions to a dedicated Cat II Financial Services Provider, any advisor who persists in doing their own fund selection and portfolio construction must be cognisant of the risks they are exposed to and the time this takes away from being able to see clients.