Can you be independent and run a Dif?
Concerns from the FSA are casting doubt on whether independent advisers will be able to offer distributor-influenced funds after the RDR.
The FSA has put distributor-influenced funds under the micro-scope amid concerns about value for money, conflicts of interest and suitability, leading many to question whether independent advisers will be able to offer them after the retail distribution review.
In February, the FSA said it had concerns over whether Difs are more beneficial to adviser firms than clients as they generally carry higher charges than other funds. It said it would monitor the market and intervene if necessary.
Speaking at the Tax Incentivised Savings Association conference on Difs in September, FSA head of investment policy Peter Smith said advisers will find it “difficult” to advise on Difs and remain independent after the RDR.
In October, the FSA revealed it is investigating the quality of investment advice on Difs, model portfolios and discretionary fund managers. An FSA spokesman says the investigation is ongoing and refuses to give a timeframe for its completion.
The regulator defines Difs as: “Created for the customers of a particular distributor, typically an adviser firm, they could be designed on a bespoke basis for the distributor or set up using an existing fund that is tailored for the distributor. Fund administration and management is outsourced to other firms but the distributor may have a degree of influence over the fund.”
In March, Tisa commissioned law firm Eversheds to conduct an independent review into Difs, looking at how they are used in practice, what is needed to deliver best outcomes and what best practice would look like.
Tisa says independent financial advisers should be allowed to offer Difs as long as they use transparent pricing, where the split between the product provider’s fee and the adviser’s fee is made clear. It says advisers should also make clear why its own Dif is more suitable than other investment options for each client, especially if the Dif is more expensive.
Tisa director of policy Malcolm Small says he will continue to lobby the FSA for independent advisers to be allowed to use Difs but the FSA’s position indicates only restricted advisers will be allowed to offer them after the RDR.
He says: “The FSA has not said it would be difficult for restricted firms to offer distributor funds. It seems clear to me that a number of advisory firms will run both a restricted and an independent proposition and a distributor fund may well be a feature of the restricted proposition.
“Where we go after the RDR is signposted by the FSA and firms intending to remain independent will need to question whether they would like to continue to offer Difs.”
This month, Sesame Bankhall teamed up with Henderson Global Investors to launch a new investment arm, Optimum Investment Management.
Henderson and Sesame will launch four multi-manager funds Sesame advisers can blend and rebalance to match a client’s risk appetite.
Henderson deputy head of global retail Stewart Cazier insists the four funds will not be classed as Difs. He says: “The FSA description of a Dif targets arrangements where the distributor does not have a substantive manufacturing role and, in this arrangement with Sesame, we are co-owners of the legal entity that manages the fund.”
Henderson also has an arrangement with Intrinsic where it offers four funds under the Cirillium brand.
Cazier says: “We are looking at upgrading the structure so Intrinsic has a more substantive role in manufacturing to avoid being caught by Dif rules after the RDR.”
Cazier argues advisers who recommend Difs after the RDR should be able to retain their independence, as long as they can show evidence of suitability. He says: “For advisers, there is not a contradiction in principle with being independent and recommending your own products. The key is that you can show the product is fit for purpose and suitable for the client.”
But joint author of The Process of Financial Planning and editor of The IRS Report Chris Gilchrist disagrees. He says: “It will be extraordinarily difficult for advisers to say they are independent and recommend their own funds, for which they are getting an investment management charge. It will be tricky to justify that as an independent proposition.
“There is a conflict of interest there and there need to be robust rules governing that, otherwise it is going to cause the next misselling scandal. If an adviser wants to offer Difs, I hope the FSA will drive them to be restricted.”
Gilchrist says the FSA should increase its focus on model portfolios. He says: “The recommendation of an in-house solution without reference to the open market seems in principle inconsistent with the rules after the RDR.”