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Off target: Pressure grows on FCA over advice due diligence scrutiny

The FCA is facing pressure to ramp up its efforts to investigate advisers’ due diligence processes after almost two years of work culminated in a report just six pages long.

The regulator published the findings of a long-awaited thematic review last week which revealed concerns advisers may be failing to adequately perform checks on the platforms and products they recommend to clients.

The FCA first revealed plans to probe the work undertaken by advisers in its 2014/15 business plan, published in April 2014, when it laid out a review of “effective due diligence for retail investment advice”.

However, the culmination of the FCA’s work has left many in the industry disappointed, with experts calling for an overhaul of charging models to boost platform switching.

A small piece of work

The FCA paper came after in-depth probes of 13 advice firms, backed up by interviews with seven external research and due diligence consultancies, and three further product and service  providers.

While the FCA found generally firms demonstrated good practice, it also found concerns with four businesses.

Of those, one was asked to complete a past business review as a result, while three others were ordered to make improvements in their research processes.

Examples of bad practice included “retro-fitting” of due diligence documents to justify decisions on platform selection, while the FCA also warned file reviews “should include a genuine assessment of the recommendation, rather than simply checking the presence of research and due diligence”.

Nonetheless, independent regulatory consultant Richard Hobbs says: “Everything just suggests this was a small piece of work and there wasn’t a huge amount of energy spent on it.

“Due diligence should be a fairly well tilled field but the problem with a thematic review where only 13 firms are investigated is that you can’t draw any conclusions from it.

“One firm out of 13 displayed egregious behaviour, but you don’t know whether you simply got lucky, and found the only firm breaking the rules, or whether there is a much worse problem out there.

“Without a bigger sample with some real statistical validity, it’s difficult to know what you can draw from it.”

Sense Network compliance director John Netting also admits his surprise at the brevity of the FCA’s findings.

He says: “Although we weren’t one of the firms approached, this paper is something we have been waiting for, so I would have liked to see a bit more detail in there.

“The FCA has done some really good papers in the past on assessing suitability. Those have been really useful and added a lot of clarity for us, but this one just isn’t as useful, even if the overall message is quite good.

“I would like to see more face-to-face stuff on positive compliance. That would be really useful and would make it less rule-based and more about good practice.”

Netting adds: “If this is all that comes out, then it will be a missed opportunity.”

Threesixty managing director Phil Young adds the regulator needs to more clearly establish penalties for failing to comply with its expectations on due diligence.

He says: “No one really knows what the consequences are, so it becomes easy to take a risk on something like retro-fitting.

“We’ve seen some big fines elsewhere, but there isn’t really the same awareness on this front.”

But The Consulting Consortium associate director Chris Martin says the FCA is limited in its ability to act on due diligence until more detail emerges from the European Union on rules expected as part of Mifid II.

The FCA has already confirmed plans for a roadshow of local events to meet with firms and better explain details, with the process expected to start in March.

A spokesman for the regulator says: “We have committed to provide firms with further communications that set out our expectations in this area in further detail, to help them raise standards and adopt good practices. We are currently considering how to do this.”

Platform pressure

Meanwhile, the FCA’s reticence to focus on the role of platforms in easing fears of “status quo bias” has led some to suggest more radical reforms.

One of the cornerstones of the FCA’s due diligence report was the regulator’s fears advisers were more inclined to retain an existing platform and “retrofit” due diligence to reflect that decision.

While compliance experts suggest this is, in part, due to the challenges of moving clients between platforms, FCA director of life insurance and financial advice Linda Woodall told Money Marketing the regulator has “no explicit objective” to make this process easier.

She says: “In general our expectations of platforms is that they run their business in a way that doesn’t stop people from switching.”

The response has led The Lang Cat founder Mark Polson to reiterate his call for advisers to be charged directly for their use of a platform.

Investment consultancy Gbi2 managing director Graham Bentley says: “I would seriously question the benefit that consumers get out of adviser platforms.

“So it’s no surprise to hear people are wondering whether the model should be fundamentally changed in some way.

“Most advisers regard platforms as a back-office function for them, and one that someone else is paying for. Clients tend to use very little, if any, of the services that are provided.”

Young agrees. He says: “It would force advisers to scrutinise and review the market a little bit more.

“At the moment the end consumer is probably more price-sensitive than an adviser, but advisers might still view that kind of process as a papering exercise.”

Expert view

Our research with advisers backs up the FCA finding that advisers are conducting regular due diligence on platforms – 84 per cent of advisers we surveyed do so at least once a year. However, the FCA’s reference to an “if it ain’t broke don’t fix it” mentality at  some firms does not take account of some of the complexities that advisers face.

It would have been interesting to see more detail  on the due diligence process. Robust customer segmentation should always be the starting point for advisers. How can they assess suitability otherwise? But in the case of platform due diligence, the factors that advisers will assess when thinking about suitability for clients with assets on platform will be quite different from clients bringing off-platform assets into play.

For clients with wrapped assets on platform in particular, any move to migrate assets is going to be much more complicated. It is not even possible to make in specie transfers in certain tax wrappers.

More generally, the adviser will also have to factor in how long the transfer process is likely to take and the out of market risk to the client.

The cost to the client is also a factor. Platform exit charges are a thing of the past. So in practice, cost is determined by the adviser’s time and resource.

This has led some to call for the FCA to intervene to mandate ease and speed of transfers between platforms. The FCA will not remember re-registration fondly. Applying uniform standards to a number of different stakeholders will be hard to administer and police and is likely to be costly. The shadow of Mifid II looms large over the FCA. With investment product research likely to be in the spotlight later this year, we think the FCA might just have bigger fish to fry.

Miranda Seath is senior researcher at Platforum

Adviser views

Ian Thomas, director, Pilot Financial Planning

Due diligence is important, but there is also a danger of going too far down that route and loading new customers on to a different platform as soon as the price changes. Sometimes changes can be to the customers’ detriment too, and if you’re spread across platforms that also increases the likelihood of something going wrong.

Alan Lakey, partner, Highclere Financial Services

There is a real problem that we have in this industry of understanding precisely what is required of us. We are very short on practical guidance and very long on theory.



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There are 7 comments at the moment, we would love to hear your opinion too.

  1. I agree with Ian that Due Diligence is important, but I also agree with Alan that it is sometimes difficult to know just what is expected of us. I also feel that it is about time that we got some efficiencies into the world of regulated advice. It seems extremely wasteful to me for each firm in the country to conduct the extensive amount of DD that seems to be expected of them. Just how many people are doing exactly the same job ?? In some ways I feel that at least some of the DD should fall to the regulator, as in, they should carry out a high-level DD process, perhaps with a traffic light system on each product provider (and not just platforms). Green could indicate that the regulator is broadly happy, amber might suggest that they have some minor concerns, and red might show that there are some important problems. Advisers could then be quite comfortable in using a green platform if their systems, service, fund range and charges met the needs of their clients, but would be vary wary of using an amber platform and would steer clear of a red rated one. This may be over-simplistic, but I’m sure that there are some elements of DD that the regulator could perform, based on their knowledge of the firms and their accounts etc, leaving the more ‘touchy-feely’ decisions to each adviser depending on their clients needs.

    If you were the CEO of a FTSE 100 company you would look for efficiencies wherever you could, minimising un-necessary repetition, so some functions would be carried out at HO for the benefit of all, and disseminated down.

    I know that regulators don’t like committing on things, but perhaps its time for a re-think. At the end of the day the regulator has the benefit of masses of MI and supervision on product providers, and I’m sure that if a product provider got an amber or red rating they would hopefully keen to improve. The regulator could tell us which providers were ‘safe’ and then we could make our decisions based on features, costs and service. Its just an idea! We do, however, need a more streamlined structure for moving clients between platforms (for instance), so that it keeps client fees down. There must surely be a simpler, compliant, system under which we could write to clients, explain why we have concerns about platform A and recommending a re-reg of existing holdings to platform B?

  2. Tim 26th February 2016 at 10:25 am

    As hinted at in the article above, I think the real issue here is that great regulatory known unknown: MIFID II.

    The FCA know what they want (and have told the industry in various papers over the last 8+ years).

    But until there is more meat on the bones of MIFID II they run the risk of having their work contradicted by Europe.

  3. Ian I do not think that price was mentioned in the report. The main findings of the report was that they (the FCA felt within the due diligence process the emphases was on the advisers requirements rather than the clients.
    May be the emphasis on cost driven by the adviser . While cost is a factor it is not the only factor that should be taken into consideration .
    There is a multitude of others One could be your client base. If client base is not High Net Worth and don’t require structured products EIS VCT and rely heavily on your advice to secure their future that should be one consideration in the due diligence process.
    Bar from one client who wanted ethical investments I never had had one who stated he wanted ETF passive indexed linked or active funds. My client base is made up of clients who want advice to secure their future. When boils down to it all they want is their money to grow and ensure the £1 in their pocket will be worth £1 in the years ahead and within reason they can maintain their lifestyle and pass some wealth on to the children.

  4. The whole due diligence piece when it comes to regulated firms is a breathtaking irony. The FCA, who hold more information than anyone else ever will or can, is asking the firms that it regulates to check the other firms it regulates before doing business with them.

    Why? Where is rhe real problem?

  5. Quite right G.A.
    If a firm is authorised by the FCA, shouldn’t that indicate that a certain level of reliance may be placed on the professional standards of that firm? If not, whatever IS the point of the regulator?

    My local greengrocer doesn’t have to inspect the farms where the veg is grown. That’s the job of DEFRA

  6. The sample of 13 firms is not large but more importantly the FCA does not give information on the composition of the sample – how many banks, how many networks, how many small firms, how many restricted versus independent? I think this becomes more important when it comes to those firms where some fault was found. Are the problems concentrated in a particular sector of the market? The fact that 3 firms have had to do some remedial work and 1 has had to do a past business review is worrying as if that picture was replicated across the market as a whole one would be looking at nearly 33% of firms with problems. But, of course, it depends how the FCA selected the sample as to whether it was representative of the whole market. I have been critical before of the regulator’s approach on sampling when it consulted on its “Assessing Suitability” guidance.

    One of the key areas that seems to be causing problems is the use of platforms. What is really needed here is more detail on the nature of the problems the FCA has found and to what extent clients are being disadvantaged. It makes business sense that having selected one or more platforms a firm will wish to stick with them for some time. Yes, this suits the convenience of the firm but it is not clear if the FCA has thought about the implications for clients if a firm keeps chopping and changing its platform – client having to get used to the features of a new platform, possible delays ( I have recently changed ISA platform and have experienced delays both on the in specie transfer of shares and an even longer delay on cash).

    I notice also that the FCA is still covering its back on Arch cru. In my response on the Arch cru consultation I argued that the FCA was trying to have its cake and eat it. The Treasury Select Committee called on the regulator to devise a risk rating system for funds but the FCA ducked the issue. As I argued in my response, product providers carry a significant responsibilty for describing accurately the risks of their funds. Sure, advisers should not take everything at face value from what a product provider says. But there are tens of thousands of funds
    on the market so it is asking a lot of advisory firms to second guess the risk ratings given by providers to every one.

  7. The main point to take out of the review was that the FCA want to see a culture of challenge within adviser firms to ensure that simply maintaining the status quo is not detrimental to clients. If firms are not regularly reviewing their product and service providers and documenting this, then that culture of challenge is missing and firms will find it difficult to show suitability.
    There have been a number of publications from the FCA to support DD including:
    FG12/16 “Assessing suitability – Replacement business and centralised investment propositions” dated July 2012… When adopting a CIP solution provided by a third party FG 12-16 suggested a firm should conduct adequate due diligence to ensure the CIP provided meets the needs and objectives of its target clients and provided some outline areas to review.
    Factsheet No.012 – “Platforms: using fund supermarkets and wraps” provided a list of areas advisers might want to consider when assessing platforms but for some reason this factsheet is no longer available on the FCA website.
    However, this information is not easy to find and in my opinion the search facility on the FCA website could be massively improved to be more supportive of those wishing to avail themselves of relevant information.

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