Plans to stop fi­nan­cial ad­vis­ers ‘dou­ble-dip­ping’

Sunday Times - - Money - Laura du Preez

Re­la­tion­ships be­tween in­vest­ment man­agers, ad­vis­ers and plat­forms leave you open to be­ing given con­flicted ad­vice and pay­ing fees that do not match the ser­vices you en­joy. They have also left the new fi­nan­cial ser­vices reg­u­la­tor scratch­ing its head over how to de­fine and reg­u­late in­vest­ment man­agers and in­vest­ment ad­vis­ers, to de­ter­mine if they are in­de­pen­dent and if they are charg­ing for a ser­vice that adds value to your in­vest­ment.

A dense Re­tail Dis­tri­bu­tion Re­view dis­cus­sion doc­u­ment re­leased re­cently by the Fi­nan­cial Sec­tor Con­duct Au­thor­ity (for­merly the Fi­nan­cial Ser­vices Board) gives an eye-glaz­ing sum­mary of the is­sues that be­devil the in­vest­ment in­dus­try.

In its first set of pro­pos­als, re­leased in 2014, the FSB pro­posed ban­ning fi­nan­cial ad­vis­ers from man­ag­ing so-called white­la­bel unit trust funds. Also known as “third party” funds, these are funds whose man­agers do not have their own col­lec­tive in­vest­ment scheme li­cences and make use of an­other unit trust fund com­pany’s li­cence. The idea was to al­low start-up fund man­agers who did not yet have the re­sources to set up on their own li­cence, with their own ad­min­is­tra­tion, to rent li­cences from estab­lished man­agers.

But fi­nan­cial ad­vis­ers took to rent­ing out li­cences to set up white-la­bel fund of funds — funds that in­vest in other unit trust funds. Ad­vis­ers es­sen­tially set up multi-man­aged funds to in­vest across as­set classes in a mix de­signed to match their in­vestors’ risk needs and tol­er­ance; for ex­am­ple, lowrisk, low-re­turn con­ser­va­tive funds or higher risk, higher re­turn ag­gres­sive funds.

But these funds, known as bro­ker funds, let ad­vis­ers col­lect an ad­vice fee to steer their clients into funds they man­age and for which they charge an in­vest­ment fee. This prac­tice is known as dou­bledip­ping.

The man­agers who rent their li­cences have full le­gal re­spon­si­bil­ity for the third­party funds, may only al­low qual­i­fied man­agers with the rel­e­vant Fi­nan­cial Ad­vi­sory and In­ter­me­di­ary Ser­vices Act li­cence to man­age the funds — and, since 2011, have been obliged to co-brand white­la­bel funds with their name and that of the bro­ker or new man­ager man­ag­ing the fund.

They are also obliged to en­ter into agree­ments with the bro­ker or fund man­ager set­ting out any con­flicts of in­ter­est and how these will be man­aged.

But this didn’t al­lay the FSB’s con­cerns about abuse. Its pro­posed ban on bro­kers set­ting up white-la­bel funds elicited much re­sponse, un­cov­er­ing for the FSCA a host of other prac­tices from which it thinks we need to be pro­tected.

Many South African fi­nan­cial ad­vis­ers now del­e­gate the se­lec­tion and man­age­ment of your in­vest­ments to dis­cre­tionary in­vest­ment man­agers (or dis­cre­tionary fund man­agers). These man­agers run what are known as model port­fo­lios on in­vest­ment plat­forms for ad­vis­ers’ clients.

As an investor, you pay these man­agers a fee, typ­i­cally off­set by a dis­counted fee from the as­set man­ager, who gets a bulked in­vest­ment from the dis­cre­tionary in­vest­ment man­ager. But it is dif­fi­cult to mea­sure the value these dis­cre­tionary man­agers add for that fee, or how qual­i­fied they are.

And what hap­pens if the in­vest­ment ad­viser and dis­cre­tionary fund man­ager are the same en­tity or in the same group? Ver­ti­cal in­te­gra­tion is the buzz word for in­vest­ment ad­vis­ers in a fi­nan­cial ser­vices com­pany who ad­vise you to in­vest in a model port­fo­lio put to­gether by a dis­cre­tionary fund man­ager in the same group, us­ing un­der­ly­ing unit trust funds from the group’s as­set man­ager and ac­cess­ing the funds on the group’s in­vest­ment plat­form.

While this may of­fer value for money if fees are dis­counted, the cu­mu­la­tive fees on some port­fo­lios have ex­ceeded 4% a year.

Lance Solms, the head of low-cost ex­change-traded fund plat­form Itrans­act, says with fees of 4% a year, re­turns of 15% a year and in­fla­tion of 6% on a 20-year re­tire­ment sav­ing port­fo­lio, you will lose a stag­ger­ing 50% of the re­turns you earn.

In the FSCA doc­u­ment are pro­pos­als in­vestors should wel­come and some you should use to guide you through the tan­gled webs un­til the FSCA puts the pro­pos­als in place, which could be many months hence.

One pro­posal sug­gests more rig­or­ous FAIS li­cence re­quire­ments for in­vest­ment man­agers who choose shares, bonds and other se­cu­ri­ties for your unit trust funds, and lesser re­quire­ments for model port­fo­lio providers.

An­other says a fi­nan­cial ad­viser who ob­tained what the FSCA iden­ti­fies as a man­date of con­ve­nience — which al­lows him or her to reg­u­larly re­bal­ance your port­fo­lio so it stays within an as­set al­lo­ca­tion you and your ad­viser have agreed is suit­able for you — should prob­a­bly not be al­lowed to charge for this ser­vice.

The dis­cus­sion doc­u­ment sug­gests that if the en­tity man­ag­ing a white-la­bel fund also gives ad­vice on your in­vest­ments, that can­not be la­belled in­de­pen­dent ad­vice.

The FSCA also wants unit trust com­pa­nies, in­vest­ment man­agers and model port­fo­lio providers to con­duct due dili­gence checks — more than just check­ing on the rel­e­vant li­cences — on the man­agers and un­der­ly­ing funds they se­lect.

Ad­vis­ers who rec­om­mend in­vest­ment man­agers or model port­fo­lio providers will also have to con­duct due dili­gence in­quiries on these en­ti­ties.

The FSCA also wants them to check out in­vest­ment plat­forms be­fore list­ing their funds and model port­fo­lios on them. In turn, in­vest­ment plat­forms may be re­quired to con­duct due dili­gence on any unit trust com­pany, in­vest­ment man­ager or model port­fo­lio it plans to list on its plat­form.

Fund plat­forms are likely to say this is im­prac­ti­cal as there are more than 1 000 funds and a sim­i­lar num­ber of model port­fo­lios listed on lo­cal plat­forms.

The FSCA is now propos­ing that the As­so­ci­a­tion for Sav­ings and In­vest­ment South Africa ex­tend its new cost mea­sure, the ef­fec­tive an­nual cost, to en­sure you un­der­stand the amount you will pay and the im­pact of all lay­ers of fees when you use model port­fo­lios or white-la­bel funds on in­vest­ment plat­forms.

It is also seek­ing in­put on how to mea­sure whether the fees you pay match the ser­vices you get, and has sug­ges­tions on how to en­sure you don’t pay twice — for ex­am­ple, ban­ning in­vest­ment man­agers or model port­fo­lio providers from hold­ing a li­cence to give ad­vice, or charg­ing for both ad­vice and in­vest­ment man­age­ment.

It also wants robo-ad­vice fees jus­ti­fied and lower fees for in­vestors who don’t want ad­vice.

These mea­sures may still be pro­pos­als, but there is no harm in ask­ing for this level of dis­clo­sure now.

It is dif­fi­cult to mea­sure the value these dis­cre­tionary man­agers add for that fee

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