In 2006, then chairman of Financial Services Authority (FSA), Callum McCarthy, made a now infamous speech at Gleneagles challenging the industry to improve its reliability, trustworthiness and performance and to establish better long-term relationships with their clients. The FSA called on the industry to take the lead and come up with solutions to produce better outcomes for consumers, producers and distributors.
In short, FSA was concerned about commission structures; the resulting focus on business volumes over quality; likelihood for product and provider bias and churn; lack of persistency for life and pensions products; and low profitability of the sector. Their proposals included raising minimum standards of professionalism for people giving advice; clearer, market standardized, labelling of services; finding more economic ways of delivering advice to consumers who have the means and need to save; improving clarity for consumers on what services they are getting, how much it costs and what they are paying for.
The UK market consists of about 47,500 investment advisers of whom 30,000 are independent and, therefore, able to use the whole of the market for products for their clients. Independent advisers are drawn predominantly from smaller firms; institutions and banks restrict their advisers to a narrow range of products which would be a mixture of their own and those provided by other insurance and investment companies.
We are now halfway through the transition and there are two main drivers for businesses. One, they must ensure that all their advisers, whether independent or restricted, have acquired the new level of qualification. Two, they must ensure that they have decided whether their business is going to be independent or restricted. This definition will only relate to the nature of the products that they will be able to offer to their clients. All businesses will have to charge a fee for service because commissions on investment products will cease. Consumer-agreed remuneration will take over and complete transparency will be added to complete disclosure that exists today.
A lot of attention has been given to the issue of qualification. Many of the more senior advisers have resisted going for further qualification, suggesting that their experience should be enough. With a positive attitude and full support many businesses have taken around three years to change successfully. The rest of the market is being given 18 months at a time when they don’t necessarily want to do it and without full understanding of the implications.
Many adviser firms in the UK are going to struggle to change their model in time. The huge risk is that many will not survive the first 12 months because they are unable to trade profitably. Ernst and Young (E&Y) has conducted considerable research on the sector in the UK and is predicting that the 30,000 independent financial advisers will become 20,000 by the end of 2013.
If businesses are unable to or don’t want to adopt the financial planning business model, how will they survive. Regulatory costs are on the rise and so are the requirements for capital adequacy. Research from E&Y also suggests that it is very expensive to service a client and therefore there is an inevitability that the independent business model will come under threat.
Many will be unable to remain independent. They will have to reduce the range of products and services they offer and be able to target their clients far more effectively. Their service will have to reflect their abilities and the market and they will become far more reliant upon technology and support staff to deliver the service to make a product. They will be competing with new entrants to the market and traditional high street banks and will have to be adding value in the relationship.
There will be further consolidation in the sector as the stronger firms acquire clients and advisers from weaker and more exposed firms.
These developments will mean that in the short term, the UK consumer will have access to fewer advisers. The competency levels would have increased considerably and the bar would have been raised so that the consumer can access a quality adviser. Charges will be clearer and professionalism will be far more evident.
Some of the issues to be addressed include the important question of how consumers in lower socio-economic groups would access financial advice once these new rules are introduced. Many independent financial advisers currently service this market and are able to do so due to the internal factoring of remuneration by product providers and an element of cross subsidy between the delivery of “free” advice and the receipt of higher levels of commission for successful product sales.
There are some big challenges ahead for the sector as a whole. Business transition is massive yet the opportunities for success are huge.
Nick Cann is chief executive, Institute of Financial Planning, UK.
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