The FSA has warned firms against “shoe-horning” clients into investment services such as model portfolios and discretionary fund management, and says it is “unacceptable” that many firms cannot justify why investment switches have taken place.
The regulator has published a guidance consultation on replacement business and centralised investment propositions today.
It defines replacement business as switching a client out of an existing investment into a new solution.
Centralised investment propositions refer to standardised approaches to advice, including model portfolios, discretionary investment management, and distributor influenced funds.
The consultation shows the findings from a thematic review carried out by the FSA into centralised investment propositions.
The regulator assessed 181 investment files from 17 firms which recommended these kind of services. It found the quality of disclosure to be unacceptable in 108 cases, and found the quality of advice to be unclear in 103 cases and unsuitable in 33 cases.
On replacement business, the FSA saw firms recommending switches based on improved performance prospects but provided no evidence to show how better performance was likely to be achieved.
The FSA reiterated its concerns about the cost of switching investments, revealed by Money Marketing last month, and says where additional costs apply firms need to judge whether they are suitable in terms of the client’s needs and objectives.
It says firms should not automatically assume a centralised investment proposition will provide better performance prospects than the client’s existing investment, and says it expects firms to justify why a new investment is likely to outperform existing investments.
The FSA says: “Advisers should never approach a fact-finding exercise with a preconceived agenda to switch the client’s existing investments into a new solution as this may not be the most suitable option for the client.”
Firms need to adopt a consistent approach to checking the costs of replacement business are considered. The FSA says it saw good practice in this area, including firms that placed a limit on the additional acceptable cost of replacement business, or used a traffic light scale for different cost levels that were acceptable for different types of investor.
Where a firm offers a centralised investment proposition the firm should the requirements of its target clients. It cited an example of good practice where a firm used client feedback to identify they required a simple, low-cost proposition.
It said it saw examples of poor practice where firms inherited investment solutions through mergers or acquisitions, but failed to assess whether the service was suitable for the enlarged client bank.
The FSA’s review also found several firms benefited financially from recommending centralised investment propositions, and did not manage the “inherent conflict of interest”.
The FSA says: “We recognise there can be benefits to offering a centralised investment proposition for both clients and firms. However we have concerns that in certain circumstances a centralised investment proposition may be unsuitable for a retail investor. For example there may be ’shoe-horning’, where firms recommend a one size fits all solution.
“The use of a centralised investment proposition might also result in higher and potentially less transparent charges than the client’s existing investment and few additional benefits.”