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Bank advice caught between ICB and RDR

In September, the Independent Commission on Banking will make its recommendations to the Government on how to reform the UK banking sector.

The ICB’s interim report suggested several proposals which include the full separation of retail and investment banking operations, ringfencing the two different businesses, increasing capital adequacy and increasing competition and have provoked radical responses from the industry, inc-luding the announcement of mass redundancy programmes at both HSBC and Lloyds.

But while the banking sector focuses on cost-cutting in response to the ICB’s proposals, its future could be affected much more heavily by the RDR, which will challenge their advice offerings and could see IFAs take a greater share.

In the face of falling profits, Barclays has already shed 1,400 jobs this year and has predicted this will top 3,000 by the end of 2011. HSBC has forecast 30,000 job losses over the next three years following a strategic review while Lloyds Banking Group announced a further 15,000 job cuts in addition to the 27,500 jobs lost since its merger with HBOS in 2009 following its own business review.

Deloitte UK partner Andrew Power says the cuts come from general regulatory concerns at the banks. “Although the number of jobs going is not ICB or RDR-specific, they are linked to the impact these reforms will have on costs.”

However, KPMG manager of risk and compliance Sally Rigg says the ICB will affect banks’ profitability.

She says: “Retail arms are going to have to increase their profits substantially. They are currently very well supported by the investment arms, so they are going to have to start doing some activities and cutting back on others.”

This focus on cost could have a dramatic effect on banks’ ability or willingness to provide advice. Rigg says ringfencing will see banks reconsider the provision of advice as costs are already increasing and this will only rise under the RDR.

She says: “We are already seeing less advice with branches closing.”

Power agrees that the way banks give advice may be affected by ICB proposals and says: “Ringfencing will potentially affect costs because you will have duplicate structures that have to be maintained and banks may have insufficient ability to fund them. This could lead to banks providing less advice.”

But it is the RDR that could have the biggest impact on advice. Power says: “The investment arms the ICB is concentrating on are almost irrelevant for most retail clients. The RDR specifically deals with the transparent provision of advice and when banks have looked at the economies, they have had a hard time justifying it.”

The cost of providing advice to the low-net-worth customers that comprise the majority of banks’ client bases and the profitability of doing so may not equate, as shown in Barclays withdrawal from advice in January.

Analysis by Ernst & Young shows that providing advice is a costly exercise for banks.

Director Malcolm Kerr says: “Earlier this year, we suggested the cost of providing advice on a fee rather than commission basis would be in the region of £200 per hour. A comprehensive investment advice process could cost over £1,000.”

The key problem is the majority of retail clients will not be able to afford such high fees and Kerr says this will disincentivise banks from advising the majority of customers and they will focus on wealthier clients. He says: “The RDR will drive advisers up market.”

This could prove difficult for banks as Rigg says this market has been dominated by IFAs and could be hard to break in to. She says: “High-net-worth customers normally go to IFAs rather than banks. The higher end is not a place for banks to step into as it is already filled by advisers.”
However, she is concerned that if the banks withdraw from the market, this may lead to bank clients to try to manage their own finances without having the knowledge to do so.

Rigg says: “Clients doing things themselves is a worry.” But she adds that instead of faceto-face advice, there are other options available to banks which want to advise massmarket customers.

She says: “The role of workplaces may become more important. Banks may look to work with corporate platforms as opposed to standard retail platforms because they will want access to the large numbers of potential clients.”

Power also thinks the workplace offers a chance to fill the advice gap. He says: “History shows people have to be encouraged to take control of their finances. One means of encouragement is advisers and another is through the workplace, where you can provide advice more economically because you are dealing with lots of people.”

The most obvious alternative to costly face-to-face advice for the mass market is a simplified model.

British Bankers’ Association strategic communications director Brian Mairs says: “It is not the FSA’s intention to price financial advice out of the reach of the general public. The BBA has been advocating a simplified model which could complement full financial advice services.”

Power thinks a simplified model is the most viable option as mass-market clients generally have simple financial needs that can be met this way. He says: “Banks will have to develop simplified or menu-based advice because the regulator will not want an advice gap.

“The complexity and choice of the vehicle are irrelevant. The key thing is to encourage them to save.”

He also agrees with Mairs’ suggestion that simplified advice should include the option of a full advice service. Power says: “It should have the ability to link into faceto-face advice as required when the consumer requests it or when the bank feels it has to intervene from a risk point of view .”

In addition to the immediate cost of providing advice, the issue of risk could be critical in determining banks’ attitude towards remaining in the business of advice.

Rigg says: “It depends on what the FSA says. Giving advice carries a lot of risk, so banks are not going to do something if they do not have clear guidance.”

After the damage inflicted by PPI misselling claims, Power says banks will be paying close attention to their exposure to risk.

He says: “Banks are concerned about misselling, especially after everything that happened with PPI. If the cost of servicing mass-market customers is not worth it, as may be the case with ringfencing and, with the price of advice under the RDR, the threat of having to pay compensation if it all goes wrong may outweigh any benefits.”

But despite the regulatory and financial difficulties banks face when considering whether to continue to provide advice, this will not necessarily benefit IFAs.

Rigg says: “The cost of providing advice in a climate where funding is squeezed is an issue but I do not think IFAs will get the lion’s share of the market. Banks such as Barclays and HSBC have private banking arms servicing high-net-worth clients and they will not be affected. I do not think your average IFA is going to gain a great deal from the impact of the RDR or the ICB on retail banks.”

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